What is the difference between fixed costs and variable costs?
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In economics, fixed costs and variable costs are the two main kinds of costs associated with production of a good or service.
Fixed costs are costs that do not vary with the level of production. They are the same if a firm produces one unit of their product or one million units. Fixed costs typically include such things as the rent on the building in which the firm produces its product.
Variable costs are the costs that do vary with the level of production. For example, a restaurant's fixed costs will include the cost of the food they prepare and serve to customers as well as the cost of the labor of wait staff and cooks.
In business and economic analysis the total cost of production of goods and services are often divided in two components based on impact of volume of production on the cost amount. These two components are fixed cost and and variable cost.
The amount of fixed cost remains constants irrespective of the production volume. This is the cost for setting up facilities and for providing other infrastructure support for manufacturing even one unit of the product, but does not increase with the level of production. For example a company must pay rent for its factory and charge depreciation for the machinery it has installed irrespective of the quantity manufactured. Similarly the company may incur fixed costs on account of other expenses like salary paid to supervisory and managerial personnel.
The amount of variable cost incurred by a company varies directly in proportion to the volume of production. For example the volume of raw material consumed, and therefore raw material costs, incurred by a company varies directly with the production volume.
Fixed costs are expenses whose total does not change in proportion to the activity of a business, within the relevant time period. For example, a retailer must pay rent and utility bills irrespective of sales
Variable costs by contrast change in relation to the activity of a business such as sales or production volume. In the example of the retailer, variable costs may primarily be composed of inventory (goods purchased for sale), and the cost of goods is therefore almost entirely variable. In manufacturing, direct material costs are an example of a variable cost.
Along with variable costs, fixed costs make up one of the two components of total cost. In the most simple production function, total cost is equal to fixed costs plus variable costs.
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