Fixed Costs and Variable Costs

Fixed costs are costs associated with those inputs which do not vary with changes in volume of output or activity within a specified range of activity or output. Fixed costs, thus, remain constant whether activity increases or decreases within a relevant range. For example, property insurance, rent of office premises, lease payments, depreciation etc. remain the same whether there is an increase or decrease in the volume of activity. However, fixed cost, like any other cost, is subject to change over a period of time. For example, property insurance, rent of office premises may increase in the next period but these increases are not the result of an increase in the firm’s output.

Costs that tend to vary in total in direct proportion to changes in production activity, sales activity or some other measure of volume are referred to as variable costs. Material costs and direct labour costs are examples of variable costs. The cost of these inputs increases or decreases in proportion to increases or decreases in volume.