Short-Run Costs vs. Long-Run Costs in Economics

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  • 0:01 Two Timeframes
  • 1:26 Short Run
  • 3:18 Long Run
  • 5:38 Lesson Summary
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Lesson Transcript
Instructor: Kevin Newton

Kevin has edited encyclopedias, taught middle and high school history, and has a master's degree in Islamic law.

In this lesson, we look at the role of short-run costs and long-run costs for producers. We see how both are essential to companies, while each has a specific role in long-term survival and daily operations.

Two Time Frames

When you make plans, chances are you don't schedule finding a job with the down-to-the-minute exactness that you use when pulling a cake out of the oven. Instead, you have two different time frames - one for things that must be completed on a set schedule, and one for things that are so far distant that there is some level of flexibility in the exact timing.

Economic producers are no different; they too have to plan for both short-run production and long-run production. Short-run production is the production that must be completed in order to satisfy existing contracts. Another way of thinking of this that you'll often see is that short-run production applies to situations where one factor of production, such as the factories needed to build something, are fixed. On the other hand, long-run production is that planning that attempts to find new contracts. As you might imagine, this means that there are no fixed factors of production. As you can imagine, both are vital to a company's success. Having short-run vision without long-run plans can put an expiration date on a company, whereas having long-run vision without short-run action can mean a company runs out of gas.

Short Run

Let's say that you own a bakery and have been contracted by local restaurants to supply them with a given number of cakes every week. This is your short-run production. To accurately handle short-run production, you must know your short-run costs, or how much in terms of resources that short-run production will take to produce.

These come in two varieties. Variable costs are those costs that change per unit produced. Obviously, as a baker you will need flour, eggs, and sugar. However, you won't need dozens and dozens of eggs to make just one cake. Because the cost can change depending on how many, we refer to these as variable costs. On the other hand, short-run production also requires attention to be paid to fixed costs, or prices paid to enter the marketplace. As a baker, you have to have a way of billing your customers. Paying for the software to create invoices is a fixed cost. Likewise, if you choose to add advertising, that is also a fixed cost. Fixed costs do not change in relation to the amount produced.

Also, notice that these costs all tend to pertain to an industry that the company has made a declared effort to join. Finally, notice that, according to these definitions, things such as equipment, floor space, and labor are all variable costs. This can sound confusing, but think about it like this - would you necessarily hire 100 cooks to make 10 cakes? Probably not. Nor would you need 10 ovens to bake 3 pies. Instead, smart managers scale up or scale down their labor and equipment as needed in the short run.

Long Run

But what about in the long run? Again, this is a time that is just as vital for producers, because it is by paying attention to the long run that companies are able to ensure that they will be around in the future. But what to do? Let's say that your baking business was so successful with restaurants that you wanted to open a store to sell directly to individuals. Or you decided that you were going to expand from cakes and pies to chocolate and fine candies. Or that you were going to start a catering business that would offer savory dishes for parties and events.

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