Average Fixed, Average Variable, and Average Total Cost

A firm spreads its fixed cost, like rent on a factory, over however many units it makes. Average fixed cost is fixed cost divided by quantity, and since fixed cost never changes, AFC just keeps shrinking as output rises. It gets close to zero but never hits it. Average variable cost and average total cost behave differently. At low output, adding workers to a fixed plant lets each one specialize and work efficiently, so variable cost per unit falls. Past some point, diminishing marginal returns set in: the fixed factory gets crowded, each added worker contributes less extra output, and cost per unit starts climbing. That turn is what bends AVC, and then ATC, upward into a U.

ATC is just AFC plus AVC at every quantity. Early on, both pieces are falling, so ATC falls fast. Later, AVC is rising while AFC keeps shrinking, and eventually the rise in AVC overpowers the shrinking AFC, so ATC turns up too. Because AFC keeps getting smaller, the vertical gap between ATC and AVC keeps narrowing as output grows, even though the two curves never actually touch.

This topic sits right before marginal cost, which crosses both AVC and ATC at their minimum points, setting up the shutdown and breakeven analysis used in the perfect competition model. Getting comfortable with how AFC, AVC, and ATC relate here makes those later graphs readable at a glance.