1.       Why average cost (AC) curve is "U" shaped?

The short run average cost curve is u-shaped due to law of variable proportion/law of diminishing returns. Law of variable proportion states that “as the quantity of one variable factor is increased, keeping the other factors fixed, the marginal product of that factor will eventually decline”. Or in other words “It states that, if one factor is used more and more, keeping the other factors constant. The total output will increase at increasing rate in the beginning and then afterwards it increases at diminishing rate and eventually decreases absolutely”.

Long run average cost curve is U-shaped due to the economies of scale and dis economies of scale. As the production starts in long run the average cost per unit product is higher due to the indivisibility of fixed factor of production. When the production starts increasing average cost per unit product starts decreasing due to economies of scale and at some point the average cost per unit product becomes minimum and after that the average cost again starts increasing due to dis economies of scale. That’s why the long run Average Cost curve is u shaped.
For example, if you start producing seed, you need fixed cost: a land, building and seed processing machine.  When you first start producing seeds, the average costs are high because you are making only a few Kg of seed and the fixed cost of land, building and machine is high. (High costs/few seed = high average costs). As you started producing more seeds, the average costs drop because you are making more Kg of seed using same land, building and machine. (High costs/many kg seed= lower average costs). Once you pass a certain point, the dis economies of scale sets in due to managerial inefficiency and average costs rises.

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