How is total cost calculated?

Total cost is calculated by summing fixed costs and variable costs. Fixed costs are the expenses that do not change with the level of production, such as rent, salaries, and insurance. These costs must be paid regardless of how much output a firm produces. On the other hand, variable costs fluctuate with the level of output; they include costs like raw materials, labor directly involved in production, and other expenses that increase as production increases.

To arrive at total cost, one adds these two components together: fixed costs provide a baseline expense, while variable costs account for the additional expenses incurred as production ramps up. This comprehensive approach allows businesses to determine their overall expenditure in producing goods or services, which is essential for pricing, budgeting, and financial planning.

Calculating total cost using methods like multiplying output by average cost or considering only fixed or variable costs would not provide a complete picture of the expenses involved. Therefore, the correct method of calculation requires both fixed and variable costs to be included.