In which condition, the average cost of a firm declines when output increases?

Option 1 -> Marginal productivity refers to additional output from one more unit of input, not directly related to average cost behavior.

Option 2 -> Constant returns to scale means output increases proportionally with inputs, keeping average cost constant, not declining.

Option 3 -> Decreasing returns to scale means output increases less than proportionally with inputs, causing average cost to increase.

Option 4 -> Increasing returns to scale means output increases more than proportionally with inputs, causing average cost to decline.

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Hence, Increasing return to scale -> When a firm experiences increasing returns to scale, it becomes more efficient as it grows. If the firm doubles all inputs, output more than doubles. This spreading of fixed costs over larger output and operational efficiencies causes the average cost per unit to decline as production increases. This is also known as economies of scale -> correct