Page 279 - DECO401_MICROECONOMIC_THEORY_ENGLISH

Microeconomic Theory

Notes
Fig. 14.5

Y
LMC
LAC
R
Revenue\Cost M

AR
E
LMC = MR Excess
MR Capacity
O X
Q Q
1
Output

Excess Capacity = Optimum Output – Actual Output; QQ = OQ – OQ
1 1

The reason for the rise of excess capacity is that in long-run equilibrium downwards bended AR curve
touches U-shaped AC curve to left of its optimum point. Tangent point ‘R’ is upper than optimum point
‘M’ means cost is more than average cost and less than optimum output (OQ ) means it is OQ.
1

Optimum Output is that output on which long-run average cost is optimum.

14.7 Is Excess Capacity Wasteful?

It is a subject to dispute that whether excess capacity is wasteful or not. The vote of some economists is
that as a result of ‘excess capacity’ number of firms is large in ‘group’. Because every firm produces less
than the optimum production so firms can be more than necessity in the ‘group’ only in the situation of
‘excess capacity’. As a result of it, there is extravagance. Because every firm is producing on the part of
negative slope of average cost curve so production is done on more than the cost. That’s why use of recent
production capacity of firm cannot be done. Due to the reason, concepts of some economists are that
excess capacity is wasteful. In its absence, production of equal quantity of products will be possible by the
less number of firms because more production will be done by every firm. As a result, production cost will
be less. Every firm will produce more quantity of product on less average cost.
Opposite to it, some economists, like Kelwin Lancaster does not admit this opinion that monopolistic
competition is wasteful. According to him, under monopolistic competition, as a result of production
of differentiated product it will be possible to increase their satisfaction on satisfying different interests
of customers.

Related to it, Lipsey said that, “Consumers’ satisfaction are maximized when the number of differentiated
products is increased until the marginal gain in consumer’s satisfaction from an increase in diversity
equals the loss from having to produce each existing product at higher cost.”
We conclude that ‘excess capacity’ is not wasteful.

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