Production

 Production
 Factors o Production
 Production Function
 Total, average and marginal production
 Fixed and variable factors of production
 Short run and long run production
 Stages of Production
 Returns to scale

Production

In economics, production means creation or an addition of utility. The processes and methods
used to transform tangible inputs (raw materials, semi-finished goods, subassemblies) and
intangible inputs (ideas, information, knowledge) into goods or services. Resources are used in
this process to create an output that is suitable for use or has exchange value.
"Production is the process of transforming raw materials or purchased components into
finished products for sale. In economics, production is the act of creating output, a good
 or service which has value and contributes to the utility of individuals. The act may or
may not include factors of production other than labor. Any effort directed toward the
realization of a desired product or service is a "productive" effort and the performance of
such act is production. Production is the process of making, harvesting or creating
something or the amount of something that was made or harvested.
Production is a process of transforming (converting) inputs (raw-materials) into outputs (finished
goods). So, production means the creation of goods and services. It is done to satisfy human
wants. Thus, production is a process of transformation.

Factors o Production

In economics, factors of production are the inputs to the production process. All factors of
production like land, labor, capital and technology are required in combination at a time to
produce a commodity. Factors of production (or productive 'inputs' or 'resources') are any
commodities or services used to produce goods or services. 'Factors of production' may also refer
specifically to the 'primary factors', which are stocks including land, labor (the ability to work),
and capital goods applied to production.

Land : Land stands for all natural resources which yield income or which have exchange value.
Land is not created by mankind but it is a gift of nature. So, it is called as natural factor of
production. It is also called as original or primary factor of production. Land or natural resource
are naturally-occurring goods such as water, air, soil, minerals, flora and fauna that are used in
the creation of products. The payment for use and the received income of a land owner is rent.
Dr. Alfred Marshall defined land is meant no merely land in the strict sense of the word, but
whole of the materials and forces which nature gives freely for man’s aid in land, water, in air
and light and heat. Land as a factor of production is quite peculiar, it possess some importance
feature, they are-

1. Land is free gift of nature: Land is not produced or man-made resource (agent).
Therefore, that we have to accept is as it is. It is after all free gift of nature.

2. Land is limited in area: Land surface of the world is remaining unchanged. In Holland,
some land has been reclaimed from the sea. But these efforts have produced a negligible
result as compared with the total area already in existence.

3. Land is permanent: Land as factor of production is not easy to destroy. The other
factors are destructible but land can not be completely destroyed.

4. Land lacks mobility: Land can not move bodily from one place to another. It lacks
geographical mobility.

5. Land is of infinite variety: Land is not man-made. Land is of infinite variety. For
example, soil may be of different types, climate elements like temperature, rains received
in different part is always varying.
Labor: Any manual or mental work which is taken into monetary consideration is called labor.
Labor, human effort used in production which also includes technical and marketing expertise.
The payment for someone else's labor and all income received from ones own labor is wages.
Labor can also be classified as the physical and mental contribution of an employee to the
production of the good(s). Peculiarities of Labour: The important peculiarities of labour are as
under.

1. Labour is inseparable from labourer: Labour can not be separated from labourer.
Worker sells their service and doesn't sell themselves.
2. Labour is a perishable factor: Labour can not be stored. Once the labour is lost, it can not
be made up. Unemployed workers can not store their labour for future employment.
4. Labour is an active factor of production: Other factors like land, capital are passive, but
labour is an active factor of production. So without labour, we cannot imagine the smooth
conduct of production.
5. Labour is a heterogeneous factor: No two persons possess the same quality of labour.
Skills and efficiency differs from person to person. So, some workers are more efficient than
others in the same job.
6. Labour has imperfect mobility: Labour doesn't move easily from one occupation to
another because of several factors like family and cultural background, limited educational and
technical skills, lifestyle, housing and transport problems, language barrier, adaptability to new
environments, etc.
7. Labour supply is inelastic: Supply of labour depends upon many factors like size of
population, age and sex composition, desire to work, quality of education, attitude towards work,
etc. Thus, supply cannot be changed easily according to changes in demand. Hence, in general,
labour supply is inelastic. But for a particular industry, it may be relatively elastic.
8. Labour is a human capital: Society makes investment in labour in the forms of education,
health, training, etc. This improves efficiency of labour. So, it is a human capital.

Capital: In economics, capital is that part of wealth which is used for production. Capital is a
produced means of production. The classical economists also employed the word "capital" in
reference to money. In much of economics, however, "capital" (without any qualification) means
goods that can help produce other goods in the future, the result of investment. It refers to
machines, roads, factories, schools, infrastructure, and office buildings which humans have
produced in order to produce goods and services. The characteristics or features of capital are:-

1. Man-made Factor : Capital is not a gift of nature. So it is not a primary or natural factor,
it is made by man in capital goods industry. It is secondary as well as an artificial factor
of production.
2. Productive Factor : Capital helps in increasing level of productivity and speed of
production.
 3. Elastic Supply : Supply of capital depends upon capital formation process. Capital
formation depends upon savings and investment. By accelerating capital formation,
capital supply can be increased. But it is a long term process.
4. Durable : Capital is not perishable like labour. It has a long life subject to periodical
depreciation.
5. Easy Mobility : Movement of capital from one place to another is easily possible.
6. Is a Wealth : Since capital has all features of wealth viz. utility, scarcity, transferability
and externality, capital is a wealth but wealth doesn't necessarily become capital.
7. Derived demand : As a factor of production, capital has a derived demand to produce
finished goods which have a direct demand. e.g. demand for raw cotton is derived from
demand for cotton cloth.

Entrepreneurship: Factors of production viz. land, labour and capital are scattered at different
places. All these factors have to be assembled together. This work is done by enterprise through
entrepreneur. This is an 'Organization Function'. Organization function is the work of bringing
the required factors together and making them work harmoniously. Entrepreneur has to bear risks
and uncertainties. For facing uncertainties he may get profit or may incur loss. This is the 'Risk
Bearing Function' and entrepreneur is the risk bearer.

To be a successful and ideal entrepreneur, one should have certain qualities or skills as given
below :-

1. Ability to organize : He should be able to organize various factors effectively. He has to

understand all the aspects of the business.
2. Professional approach : He should be objective and professional in approach.
3. Risk bearer : He should be risk taker. He should be ready to bear risk and uncertainties.
4. Innovative : Organiser should be innovative. He should adopt modern techniques of production.
He should not be reluctant to changes.
5. Decision Making : One has to take right decision at a right time by showing his promptness.
Quick decisions are expected but hasty decisions shouldn't be taken. Delay in decisions may
increase cost of project and reduce the profits.
6. Negotiation skills : Businessman regularly comes into contact with various persons like
consumers, workers, government officials, etc. so he should communicate tactfully.

Following chart provides brief tabulated information on 4 factors of production.

Inputs: Any good or service which goes into the production process is known as input. Such as
land, capital, labour, or raw materials etc. are inputs.
Output: Any good or service which comes out of the production process is known as output.
Finished goods are the output. For example: a pen, book, table etc.

Input determines the quantity of output i.e. output depends upon input. Input is the starting point
and output is the end point of production process.

Production Function
Production Function shows the level of output that a firm can produces for specified combination
of inputs. The production function shows how output varies as the factor inputs change. The
production function relates the output of a firm to the amount of inputs, typically capital and
labor. It is a technical tool to analyze input-output relationship. It describes technological
relationship between inputs and output in physical term. A production function relates physical
output of a production process to physical inputs or factors of production. Single-input
production functions are sometimes called total product function. A total product function with a
single input shows how total output depends on the level of the input.

A production function can be expressed in a functional form as--

where:
Q = quantity of output
Quantities of factor inputs (such as land, capital, labour, or
raw materials, technology, time, weather)

Total, Average and Marginal Product (Production with one variable input)

The total product is generated from the total output from the factors of production employed by the
firm. It is the quantity of output produced per time period given the inputs.

Average product measures output per-worker-employed or output-per-unit of capital. The

average product of labor is the average amount of output per unit of labor. The average product
of labor is also sometimes called the average physical product of labor and is then written as
APPL.

Mathematically, the average product of labor is equal to:

APL = total product / quantity of labor = Q / L

Here, APL is the average product of labor

Marginal product is the change in output from increasing the number of workers used by one
person, or by adding one more machine to the production process in the short run. The marginal
product, which we write as MP. The marginal product of an input is the rate at which output
changes as the firm changes the quantity of one of its inputs, holding the quantities of all other
inputs constant. The marginal product of labor is given by:

MPL = change in total product / change in quantity of labor = ∆ Q / ∆ L (K is held constant)

The marginal product of labor is the rate at which total output changes as the firm changes its
quantity of labor.

Similarly, the marginal product of capital is given by:

MPK = change in quantity of output Q / change in quantity of capital K = ∆ Q / ∆ K (L is
held constant)
The marginal product of capital is the rate at which total output changes as the firm changes its
amount of capital.

Table 01: Production with one variable input

Amount of Amount of Total product average product marginal

labor capital (TQ) (Q/L) product (∆ Q / ∆
L)
0 10 0 ----- --------
1 10 10 10 10
2 10 30 15 20
3 10 60 20 30
4 10 80 20 20
5 10 95 19 15
6 10 108 18 13
7 10 112 16 4
8 10 112 14 0
9 10 108 12 -4
10 10 100 10 -8

In our example, when labor input is zero, total output is also zero. Total output then increases as
labor is increased up to an input of 8 units. Beyond that point total output declines. AP increases
initially but falls when the labor input becomes greater than four. Like the average product the
marginal product first increases then falls after the third unit of labor.

Figure 01 shows the graphs of the total product, marginal and average product curves
simultaneously. The upper segment of this figure shows that as labor is increased, output
increases until it reaches the maximum output of 112, there-after it falls. The lower part shows
the marginal and average product curves. At point A, where MPL is at a maximum, APL < MPL.
At point B, APL is at a maximum and after that point APL declines.

When the marginal product > the average product, the average product is increasing. When the
marginal product < the average product, the average product is decreasing.
 Figure 01: Shape of the total, average and marginal product curve

Fixed and variable

factors of production

Variable factors of
production are the
inputs that can be
adjusted in the short
run to increase or
decrease the output of
a manufacturing plant.
Variable inputs are
those inputs whose
supply is elastic in the
short run. A variable
factor of production is
one whose usage rate
can be changed easily.
In the short run, a
firm’s “scale of
operations” determines
the maximum number
of outputs that can be
produced. For
example: Labor, raw
materials etc. Examples also may include electrical power consumption, transportation services.

Fixed factors of production are the inputs that can not adjust to alter production in the short run.
Fixed inputs are those inputs whose supply is inelastic in the short run. A fixed factor of
production is one whose quantity cannot readily be changed. For example: Land, plant, building,
machinary major pieces of equipment, suitable factory space, and key managerial personnel etc.
In the long run, there are no scale limitations.

Short run and long run production

The short run is a time period where at least one factor of production is in fixed supply. It
should be noted that usually factory facilities, equipment and machinery including land are fixed,
however, the supply can be altered by changing the demand for labor, raw material, factory
components and etc. In the theory of production, short run is a period during which some of the
factors of production mentioned above are constant. For example, in the short run, firm can not
buy a new machine. So capital may remain constant in the short run. If it has to increase
production in the short run, it may do so by hiring more contract labour to work on the same
stock of machines or equipment.

Short run production function:

 Q = f (L,K) where L is variable and K is fixed factor of production.

Usually a firm or producers have to pay certain production cost form the expenses such as the
construction of building for the management office, manufacturing facilities, salaries or wages of
the labor and other overhead costs. In the short run,the firm cost structure has to consider the
fixed costs (FC) in a given period of time regardless of production level. The variable cost is
associated with the production cost.

Long Run Production

In the long run, all factors of production are variable. In the “long run”, all inputs of production can
be changed by management. The long run is a time period where both fixed and variable inputs are
elastic. Long run, on the other hand, is a period, during which all the factors of production can vary. A
firm can not only hire more/less labour but also can increase/reduce size of plant, buy more/sale
existing stock of capital, and so on. One should keep in mind, the short-run and long-run period in
production theory, is not time specific. For a poultry firm, for example, long run will be a period, till it
increases its capacity by adding poultry stock (which may take say 2 weeks). But for a cement factory, it
may take 2 years to increase its capacity by constructing a new plant. So long run for cement factory
may be 2 years.

Long run production function:        

Q = f (L,K) where both L and K are variable factors of production.

Stages of Production

Economists identify three stages of production. The three stages of production are characterized by the
slopes, shapes, and interrelationships of the total, marginal, and average product curves. The first stage
is characterized by an increasingly positive slope. The second stage by a decreasingly positive slope. And
the third stage by a negative slope.
Stage I

Short-run production Stage I arises due to increasing average product. As more of the variable input is
added to the fixed input, the marginal product of the variable input increases. Most importantly,
marginal product is greater than average product, which causes average product to increase.

In Stage I, the shapes and interrelationships of the total, marginal, and average product curves
are-

 The total product curve has a positive slope.

 Marginal product is greater than average product i.e., MPL > APL. Marginal product initially
increases, the decreases until it is equal to average product at the end of Stage I.
 Average product is positive and the average product curve has a positive slope.

Stage II

In Stage II, short-run production is characterized by decreasing, but positive marginal returns. As more of
the variable input is added to the fixed input, the marginal product of the variable input decreases. Most
important of all, Stage II is driven by the law of diminishing marginal returns.

The three product curves reveal the following patterns in Stage II.

 The total product curve has a decreasing positive slope. In other words, the slope becomes
flatter with each additional unit of variable input.
  Marginal product is positive and the marginal product curve has a negative slope. The marginal
product curve intersects the horizontal quantity axis at the end of Stage II. The marginal product
falls below its average product, i.e., in Stage II, MPL < APL.
 Average product is positive and the average product curve has a negative slope. The average
product curve is at its a peak at the onset of Stage II. At this peak, average product is equal to
marginal product.

Stage III

The onset of Stage III results due to negative marginal returns. In this stage of short-run
production, the law of diminishing marginal returns causes marginal product to decrease so much
that it becomes negative.

In Stage I, the shapes and interrelationships of the total, marginal, and average product curves
are-

 The total product curve has a negative slope. It has passed its peak and is heading down.
 Marginal product is negative and the marginal product curve has a negative slope and is moving
down.
 Average product remains positive but the average product curve has a negative slope while
average product remains greater than zero.

Returns to Scale

Returns to scale are defined as the relation between an equi-proportionate change in all the inputs used
in a commodity’s production and the resulting proportionate change in the output of that commodity.
How the output of a business responds to a change in factor inputs is called returns to scale.

Increasing Returns to Scale

 When our inputs are increased by 2%, our output increases by more than 2%, this is
called as Increasing returns to scale. It occurs when the % change in output > % change
in inputs

Constant Returns to Scale

 When our inputs are increased by 2%, our output increases by exactly 2%, this is called
as constant returns to scale. It occur when the % change in output = % change in inputs.

Decreasing Returns to Scale

  When our inputs are increased by 2%, our output increases by less than 2%, is called
Decreasing returns to scale. It occurs when the % change in output < % change in inputs.

Numerical example of long run returns to scale

Units of Capital Units of Labour Total Output % Change in Inputs % Change in Output Returns to Scale
20 150 3000      
40 300 7500 100 150 Increasing
60 450 12000 50 60 Increasing
80 600 16000 33 33 Constant
100 750 18000 25 13 Decreasing

O L

Short notes
Production: Production is a process of transforming (converting) inputs (raw-materials) into
outputs (finished goods).
Inputs: Any good or service which goes into the production process is known as input. Such as
land, capital, labour, or raw materials etc. are inputs.

Output: Any good or service which comes out of the production process is known as output.
Finished goods are the output. For example: a pen, book, table etc.

Production function: Production function shows how output varies as the factor inputs change.
The production function relates the output of a firm to the amount of inputs, typically capital and
labor.

Total product: The total product is generated from the total output from the factors of production
employed by the firm. It is the quantity of output produced per time period given the inputs.

Average product measures output per-worker-employed or output-per-unit of capital. The

average product of labor is the average amount of output per unit of labor.
Marginal product: The marginal product, which we write as MP. The marginal product of an
input is the rate at which output changes as the firm changes the quantity of one of its inputs,
holding the quantities of all other inputs constant.

Variable factors of production: These are the inputs that can be adjusted in the short run to
increase or decrease the output of a manufacturing plant. For example: Labor, raw materials etc.
Examples also may include electrical power consumption, transportation services.

Fixed factors of production: These are the inputs that can not adjust to alter production in the
short run. Fixed inputs are those inputs whose supply is inelastic in the short run.

Short run production: The short run is a time period where at least one factor of production is in fixed
supply. It should be noted that usually factory facilities, equipment and machinery including land are
fixed, however, the supply can be altered by changing the demand for labor, raw material, factory
components and etc.
Long run production: In the long run, all factors of production are variable. In the “long run”, all
inputs of production can be changed by management. The long run is a time period where both fixed
and variable inputs are elastic.

Returns to Scale : Returns to scale are defined as the relation between an equi-proportionate change
in all the inputs used in a commodity’s production and the resulting proportionate change in the output
of that commodity. How the output of a business responds to a change in factor inputs is called
returns to scale.

Questions
1. What is production function? Distinguish between fixed inputs and variable inputs.Is the
distinction between the two relevant in the long run?
2. Distinguish between the short run and the long run in the context of production.
3. Sketch Typical total product curve and marginal product curves with labor as the variable input.
4. Explain the relationship between the marginal product curve and average product curve. Why is
marginal product zero when total product is maximized?
5. Explain the law of diminishing marginal returns. Explain increasing, decreasing and constant
returns to scale.