Short-run marginal cost is an economic concept that describes the cost of producing a small amount of additional units of a good or service. Marginal cost is a key concept for making businesses function well, since marginal costs determine how much production is optimal. If the revenue gained from producing more units of a good or service is less than the marginal cost, the unit should not be produced at all, since it will cause the company to lose money.
Use in Production
For businesses, tracking the cost to produce an item is important from the start. If a business spends too much money on production and that money can't be recouped from sales, the company will quickly go out of business. However, running out of inventory can be problematic, since customers will simply take their business elsewhere. For this reason, businesses are constantly juggling the need to invest in more resources against the ability they have to sell those goods. Often cutting back on production can seem like a cost-effective solution, but in some cases, the cost to manufacture a small amount is more than the cost to produce a standard run.
In addition to short-run costs, most businesses also deal with long-run marginal costs. These differ from short-run in that no costs are fixed in the long run. In the short run, companies have costs such as rent and other payments that cannot be changed but, in the long run, such costs can be altered. For that reason, businesses often hone their efforts on controlling short-run costs, since the long-run costs can be much less predictable.
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Calculate Short-Run Marginal Costs
Calculate the change in total cost when producing a given quantity of additional units. Total cost is equal to fixed costs plus variable costs. The change in total cost will be the new total cost after producing any additional units, minus the total cost before producing the units.
Calculate the change in quantity. To do this simply subtract the original quantity from the new quantity. For many marginal cost calculations, the change in quantity will be equal to one. Divide the change in total cost calculated by the change in quantity to find the short-run marginal cost.
The general formula for calculating short-run marginal cost is: MC= d(TC)/d(Q) where TC is total cost, Q is quantity, and d signifies the change in these values.