Question

Fixed cost per unit increases when

• A. Production decreases
• B. Production increases
• C. Production remains same
• D. None of these

Hint:

Remember this inverse relationship: - Production \(\uparrow\) \(\implies\) Fixed Cost per Unit \(\downarrow\) - Production \(\downarrow\) \(\implies\) Fixed Cost per Unit \(\uparrow\) Total fixed cost remains constant, but the per-unit cost changes with output.

Answer 1

The Correct Option is A

Step 1: Understanding the Question:
The question asks about the relationship between the level of production and the fixed cost per unit.
Step 2: Key Concept:
- Total Fixed Cost (TFC): This is a cost that does not change in total, regardless of the level of production (e.g., rent, salaries of administrative staff).
- Fixed Cost per Unit (or Average Fixed Cost, AFC): This is calculated by dividing the Total Fixed Cost by the number of units produced.
\[ \text{Fixed Cost per Unit (AFC)} = \frac{\text{Total Fixed Cost (TFC)}}{\text{Number of Units of Production (Q)}} \]
Step 3: Detailed Explanation:
Let's consider an example. Suppose the Total Fixed Cost is \$10,000.
- If the company produces 1,000 units, the Fixed Cost per Unit = \$10,000 / 1,000 = \$10.
- Now, if production decreases to 500 units, the Fixed Cost per Unit = \$10,000 / 500 = \$20.
- If production increases to 2,000 units, the Fixed Cost per Unit = \$10,000 / 2,000 = \$5.
As we can see from the example, since the Total Fixed Cost (the numerator) remains constant, the Fixed Cost per Unit has an inverse relationship with the number of units produced (the denominator). When production decreases, the same total fixed cost is spread over fewer units, causing the fixed cost per unit to increase.
Step 4: Final Answer
Fixed cost per unit increases when production decreases.