Why do railroads require greater volumes of freight in order to be profitable?

• A. Because railroads face constant marginal costs regardless of output.
• B. Because railroads have high fixed costs that must be spread over a large quantity of output.
• C. Because railroads are subject to increasing returns to scale at low levels of output.
• D. Because railroads can only operate in areas with high population density.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the cost structure of railroads by distinguishing between fixed costs and variable costs. Fixed costs are expenses that do not change with the level of output, such as infrastructure investment in tracks and stations.
2. Step 2: Recognize that railroads have very high fixed costs due to the need for extensive infrastructure, equipment, and maintenance, which must be paid regardless of how much freight is transported.
3. Step 3: Analyze how these high fixed costs affect profitability. Since fixed costs are constant, railroads need to transport a large volume of freight to spread these costs over many units, reducing the average cost per unit.
4. Step 4: Understand that marginal costs for railroads are relatively low compared to fixed costs, meaning that the cost of transporting one additional unit of freight is small, but the initial investment is large.
5. Step 5: Conclude that because of the high fixed costs and relatively low marginal costs, railroads require large volumes of freight to achieve economies of scale and become profitable.