production

Law of Variable Proportion & Return of Scale : 

Law of Variable Proportion & Return of Scale

Production Function : 

Production Function

Production : 

Production Refers to the transformation of resources into outputs of goods and services General motors hires workers who use machinery in factories to transform steel, plastic, glass, rubber and so on into automobiles

Production Function : 

Production Function States the relationship between inputs and outputs Inputs – the factors of production classified as: Land – all natural resources of the earth – not just ‘terra firma’! Price paid to acquire land = Rent Labour – all physical and mental human effort involved in production Price paid to labour = Wages Capital – buildings, machinery and equipment not used for its own sake but for the contribution it makes to production Price paid for capital = Interest

Fixed and Variable Inputs : 

Fixed and Variable Inputs Variable Input : one whose quantity may be varied in the short run and the long run. Fixed Input : one whose quantity may not be varied in the short run, but may be varied in the long run.

Production Function : 

Production Function Inputs Process Output Land Labour Capital Product or service generated – value added

Analysis of Production Function:Short Run : 

Analysis of Production Function:Short Run In the short run at least one factor fixed in supply but all other factors capable of being changed Reflects ways in which firms respond to changes in output (demand) Can increase or decrease output using more or less of some factors but some likely to be easier to change than others Increase in total capacity only possible in the long run

Analysis of Production Function:Short Run : 

Analysis of Production Function:Short Run In times of rising sales (demand) firms can increase labour and capital but only up to a certain level – they will be limited by the amount of space. In this example, land is the fixed factor which cannot be altered in the short run.

Slide 9: 

Analysis of Production Function:Short Run If demand slows down, the firm can reduce its variable factors – in this example it reduces its labour and capital but again, land is the factor which stays fixed.

Slide 10: 

Analysis of Production Function:Short Run If demand slows down, the firm can reduce its variable factors – in this example, it reduces its labour and capital but again, land is the factor which stays fixed.

Analysing the Production Function: Long Run : 

Analysing the Production Function: Long Run The long run is defined as the period of time taken to vary all factors of production By doing this, the firm is able to increase its total capacity – not just short term capacity Associated with a change in the scale of production The period of time varies according to the firm and the industry In electricity supply, the time taken to build new capacity could be many years; for a market stall holder, the ‘long run’ could be as little as a few weeks or months!

Slide 12: 

Analysis of Production Function:Long Run In the long run, the firm can change all its factors of production thus increasing its total capacity. In this example it has doubled its capacity.

Production Function : 

Production Function Mathematical representation of the relationship: Q = f (K, L, La) Output (Q) is dependent upon the amount of capital (K), Land (L) and Labour (La) used

The Law of Variable Proportions : 

The Law of Variable Proportions Is the answer to the question: How will total output change when all inputs except one are fixed? Two ways to illustrate the answer: Production schedule (chart) Production function (graph) Usually, as in this example, labor is the variable input; all other variables are held constant.

Key Concept: Marginal Product : 

Key Concept: Marginal Product Marginal product is the amount that total output increases by adding one more unit of an input. Marginal product is calculated by subtracting the most recent total product (# of units produced) from the new total product.

Conclusions : 

Conclusions While adding units of an input (labor), the marginal product goes through three stages: Stage I (Increasing returns): marginal product increases throughout. This means that every additional unit increases productivity as well as total output. This is shown on the graph by an increasing slope.

Conclusions, cont. : 

Conclusions, cont. Stage II (diminishing returns): marginal product decreases throughout. This means that every additional unit decreases productivity, though total output still increases. This is shown on the graph by a decreasing positive slope. Stage III (negative returns): marginal product is negative throughout. This means that each additional unit actually decreases total output. a waste of money and resources. This is shown on the graph by a negative slope.

Conclusions, cont. : 

Conclusions, cont. The greatest productivity is at the end of Stage I. The greatest output is at the end of Stage II. Therefore, Stage II is ideal, because there is a balance between productivity and total output.

Law of Return to Scale : 

Law of Return to Scale The word scale refers to the long-run situation where all inputs are changed in the same proportion. The results might be constant, increasing or decreasing returns.

Constant Return to Scale : 

Constant Return to Scale Refers to the situation where output changes by the same proportion as inputs Eg if all inputs are increased by 10%, output also rises by 10%, Inputs are doubled then output is also doubled

Increasing Return to Scale : 

Increasing Return to Scale Refers to the case where output changes by a larger proportion than inputs Eg if all inputs are increased by 10%, output rises by more than 10%, Inputs are doubled then output is more than doubled Division of labour & Specialisation

Decreasing Returns to Scale : 

Decreasing Returns to Scale Refers to the case where output changes by a smaller proportion than inputs Eg if all inputs are increased by 10%, output rises by less than 10%, Inputs are doubled then output is less than doubled Managerial Diseconomies

Questions??? : 

Questions???