Which of the following statement (s) is/are correct?

Statement 1: The total fixed cost curve is a rectangular hyperbola.

Statement 2: Both SMC and AVC curves are ‘U’-shaped.

Only Statement 2 is correct.

The correct answer is option 2: Only Statement 2 is correct.

Statement 1: The total fixed cost curve is a rectangular hyperbola. False. The average fixed cost curve is a rectangular hyperbola. The shape of TFC is a horizontal straight line.

Statement 2: Both SMC and AVC curves are ‘U’-shaped. Correct.

Marginal cost is the additional cost that a firm incurs to produce one extra unit of output. According to the law of variable proportions, initially, the marginal product of a factor increases as employment increases, and then after a certain point, it decreases. This means initially to produce every extra unit of output, the requirement of the factor becomes less and less, and then after a certain point, it becomes greater and greater. As a result, with the factor price given, initially the SMC falls, and then after a certain point, it rises. SMC curve is, therefore, ‘U’-shaped.

Both SMC and AVC curves start from the same point. Then, as output increases, SMC falls. AVC being the average of marginal costs, also falls, but falls less than SMC. Then, after a point, SMC starts rising. AVC, however, continues to fall as long as the value of SMC remains less than the prevailing value of AVC. Once the SMC has risen sufficiently, its value becomes greater than the value of AVC. The AVC then starts rising. The AVC curve is therefore ‘U’-shaped.