Association of Chartered Certified Accountants (ACCA) Certification Practice Test

What characterizes market behavior in the short run compared to the long run regarding costs?

1. Fixed costs are more relevant in the short run

2. All costs are variable in the short run

3. Costs do not vary in the long run

4. Average costs are irrelevant in the short run

The correct answer is: Fixed costs are more relevant in the short run

Market behavior in the short run is primarily characterized by the presence of fixed costs, which play a significant role in a firm's decision-making process. In the short run, certain factors of production are fixed, meaning they cannot be altered or adjusted, regardless of production levels. This includes expenses such as rent, salaries of permanent staff, and equipment costs. Since these costs do not change with the level of output, they impact how firms respond to changes in demand. The relevance of fixed costs in the short run highlights the fact that firms must account for these expenses in their pricing strategies and production decisions. When demand fluctuates, businesses can adjust their output levels to some extent without altering fixed costs. However, their ability to reduce total costs in the short run is limited, as they still need to cover these fixed expenses regardless of production levels. In contrast, the other options present misunderstandings about cost behaviors. For instance, while some costs may become variable in the long run as firms have the flexibility to change their production processes and expand or contract their capacity, costs in the long run can vary. Furthermore, average costs remain relevant in both the short and long run, as they provide valuable insights into efficiency and pricing strategies. Thus, recognizing the relevance of fixed costs