Change in cost over change in quantity
Take two production levels, subtract the older total cost from the newer one, and divide by the extra units. That per-unit figure is the marginal cost, the cost of one more unit. Because fixed costs don't change between the two levels, they cancel out and never enter the answer.
Worked example
- Bakery makes 100 loaves for a total cost of $500.
- It scales up to 110 loaves for a total cost of $650.
- Δ cost = 650 − 500 = $150; Δ quantity = 110 − 100 = 10 loaves.
- Marginal cost = 150 ÷ 10 = $15 per loaf.
The $15 covers only the flour, energy and labor of the extra loaves. The oven and the rent were already paid for at 100 loaves, so they don't appear.
Why marginal cost usually curves
Plotted against output it tends to make a U. It falls at first as fixed costs spread thin and workers specialize, then rises as the plant gets crowded and each added worker adds less. The lowest point is where a business runs most efficiently.
| Marginal cost vs average cost | What happens to average cost |
|---|---|
| Marginal below average | Average cost falls |
| Marginal equals average | Average cost at its minimum |
| Marginal above average | Average cost rises |
Set your selling price at or above marginal cost. A firm makes the most profit at the output where marginal cost equals marginal revenue, the money the next unit brings in.
Common questions
What is marginal cost in one sentence?
It is the extra cost of making one more unit, found by dividing the change in total cost by the change in quantity. Bake 100 loaves for 500 dollars and 110 for 650, and the marginal cost is 150 divided by 10, or 15 dollars a loaf.
Does marginal cost include fixed costs?
No. Rent, insurance and equipment stay the same whether you make one more unit or not, so they drop out of the change in total cost. Only the added variable costs count.
How is marginal cost different from average cost?
Average cost spreads total cost over every unit made. Marginal cost is the price of just the next unit. When marginal cost is below average cost the average falls; when it is above, the average rises.
