What Is the Long Run?

What Is the Long Run?

Let me explain the economic term 'long run' directly to you: it refers to a theoretical future situation where all factors of production and costs are variable. In this period, you'll see a variable number of producers in the market, meaning firms can enter and leave based on profitability or losses. Remember, in the long run, profits are ordinary, so there are no economic profits to speak of.

Key Takeaways

Over the long run, a firm will look for the production technology that lets it produce the desired output at the lowest cost. You should associate the long run with the LRAC curve, along which a firm minimizes its cost per unit for each long-run quantity of output. When the LRAC curve declines, internal economies of scale are being exploited, and the opposite holds true.

How the Long Run Works

I'm telling you, the long run describes an economic situation where a manufacturer or producer has flexibility in production decisions. This means inputs like capital, labor, materials, and equipment are all variable. Businesses can expand or reduce production capacity in the long run, and they can enter or exit an industry based on expected profits. Firms know they can't just change production levels to reach equilibrium between supply and demand instantly.

In macroeconomics, the long run is when the general price level, contractual wage rates, and expectations fully adjust to the economy's state. This contrasts with the short run, where these variables might not adjust completely. Long-run models can shift away from short-run equilibrium, with supply and demand reacting more flexibly to price levels.

Firms adjust production in response to expected economic profits—for instance, by increasing or decreasing the scale of production due to profits or losses, which might involve building a new plant or adding a production line.

Important Note

Understand this: the long run doesn't refer to a specific period of time. It's specific to the firm, industry, or economic factor you're studying.

Long Run and the Long-Run Average Cost (LRAC)

In the long run, a firm searches for the production technology that produces the desired output at the lowest cost. If a company isn't producing at its lowest possible cost, it risks losing market share to competitors who can produce and sell at minimum cost.

The long run ties to the long-run average cost (LRAC), which is the average cost of output when all production factors are variable. The LRAC curve shows the path where a firm minimizes cost per unit for each quantity of output in the long run. This curve is made up of short-run average cost (SRAC) curves, each for a specific level of fixed costs, making the LRAC the least expensive average cost for any output level. As long as the LRAC curve declines, internal economies of scale are in play.

Fast Fact

Note that the long-run average cost can also be called the long-run average total cost.

Economies of Scale

Economies of scale happen when, as output quantity increases, the cost per unit decreases. Essentially, these are cost advantages from expanding production size. These advantages lead to better production efficiency, giving a business a competitive edge in its industry, which can mean lower costs and higher profits.

If LRAC falls as output rises, the firm experiences economies of scale. When LRAC starts rising, it's diseconomies of scale, and if it's constant, the firm sees constant returns to scale.

Long Run vs. Short Run

The long run is the opposite of the short run, which is when firms aim to meet goals quickly as demand for a product or service rises. In the short run, at least one production factor is fixed, while others are variable, and costs are fixed, so there's no equilibrium flexibility. This limits adjustments in inputs or outputs due to fixed costs. While the long run has ordinary profits, the short run can allow economic or exceptional profits.

Example of a Long Run

Consider this hypothetical: suppose a business has a one-year lease. For this firm, the long run is any period longer than a year, since it's not bound by the lease after that. In the long run, you can alter labor amounts, factory size, and production processes to suit the business needs or lease terms.

Why Is the Long Run Important in Economics?

The long run is where all production factors and costs are variable, showing how efficient and well-run firms can be when everything can change.

What Eliminates Economic Profits in the Long Run?

Perfect competition exists in the long run, allowing firms to enter the market easily. With potentially infinite competing firms, profits get eliminated. But companies can also leave the market easily, wiping out losses too.

What Are Some of the Benefits of the Long Run?

Since costs are variable in the long run, firms can adjust operations as needed—increasing or decreasing them. They can shape production factors to reduce costs effectively.

The Bottom Line

To wrap this up, the long run lets companies operate with variable production factors, making costs variable too. This gives flexibility to adjust production levels and operations to minimize costs. However, perfect competition usually means no exceptional profits.