Giovannie Alvarez

Form 5

Economic

Production, Economic Resources and Resource Allocation

CONTENTS

Production, Economic Resources And Resource Allocation...........................................................................................2

Production vs Productivity..........................................................................................................................................2
Factors Of Production.................................................................................................................................................3
Land.............................................................................................................................................................................5
Capital.........................................................................................................................................................................6
Enterprise....................................................................................................................................................................8
Labor...........................................................................................................................................................................9
Short Run & Long Run...............................................................................................................................................14
Costs..........................................................................................................................................................................16
Goods & Services......................................................................................................................................................25
Resource Allocation..................................................................................................................................................26
Economic Systems....................................................................................................................................................27
How Firms Operate under Different Market Structures..........................................................................................36
Economies & Diseconomies Of Scale........................................................................................................................38
Extra notes:...............................................................................................................................................................45

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PRODUCTION, ECONOMIC RESOURCES AND RESOURCE ALLOCATION

PRODUCTION VS PRODUCTIVITY

In economics the terms production and productivity can be misinterpreted. Both terms do not
mean the same thing,

Production is the process of creating, growing, manufacturing or improving goods and services.

In economics, productivity is used to measure the efficiency or rate of production. It is the

amount of output. For example, the number of goods produced per unit of input. The units of
input can be labor, equipment and or capital

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FACTORS OF PRODUCTION

In Economics, the factors of production are the necessary inputs used in the production
process. There are what is used in the production process to produce output. The output being
finished goods and services.

The Factors of Production are as follows: CELL

 Capital
 Enterprise
 Land
 Labor

Capital -> It refers to the assets that allow for increased work productivity. Example assets can
include physical tools, plants and any equipment that allows for increased work productivity.
Capital is essentially any resource that is used to create other goods.

Enterprise -> Enterprise usually refers to the Entrepreneur. Enterprise is the coordinating
factor. The Entrepreneur organizes the other factors of production into a production unit to
produce goods and services.

Land -> Land refers to anything (any resource) that is naturally occurring. Naturally occurring
simply means that the resource can be located in the land, sea and or air. Land essentially
refers to any natural resource that is used to produce goods and services.

Labor -> Labor is all man’s physical and mental efforts. Labor is the effort or efforts that people
contribute to the production of goods and services.

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Each factor of production is rewarded.

Capital is rewarded through interest.

Land is rewarded through rent

Enterprise is rewarded through profit

Labor is rewarded through wages and salaries.

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LAND

As stated before, Land is any natural resource that is used to produce goods and services. This
includes the physical land and anything that comes from the land.

Some common land or natural resources are water, oil, copper, natural gas, coal and forests.
Land resources can be renewable and non-renewable.

Renewable land or natural resources are forests, ethanol and many others.

Non-renewable land or natural resources are oil, natural gas, coal and others.

The income that resource owners earn in return for land resource is called rent.

Land is an important factor of production. Land can also be considered the PRIMARY factor of
production. Land is an important factor of production because it provides the necessary natural
resources used to produce goods and services. Land also provides the necessary space to
construct factories and industries that are used to carry out the production process.

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CAPITAL

As stated before, Capital is any asset that allows for increased work productivity.

Some common examples of capital are the machinery used in factories, tools and equipment.
Equipment can include hammers, saw and computers.

Capital resources are MAN-MADE tools and equipment used to produce a product.

Capital differs based on the work and work being done. For example, a Doctor may use a
stethoscope and an examination room to produce medical services. In contrast to a teacher
using desks, a whiteboard and whiteboard markers to produce education services.

Capital can also be the money that companies use to buy resources. Capital is an important
factor of production because it is what allows labor and land to be purchased.

The income earned by owners of capital resources is interest.

Capital can also be a substitute for labor. For example, if higher quantities of a good or a service
led to a situation where unit increase in capital causes savings in labor, the firm will
undoubtably substitute the labor for capital. Essentially, the firm wants to save money.

Capital accumulation refers to an increase in assets from investments or profits. It is also one of
the building blocks of a capitalist economy. The goal of capital accumulation is to increase the
value of an initial investment as a return on an investment. The increase can be in the form of
appreciation, rent, capital gains or interest.

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Return on Investment -> it is performance measure used to evaluate the efficiency of an
investment or compare the efficiency of a number of different investments. It is essentially a
ratio between net profit and cost of investment.

A high return on investment simply means that the investment’s gains compare favorably to its
cost. A low return on investment would mean the opposite.

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ENTERPRISE

This factor is also called entrepreneurship. An entrepreneur is a person who coordinates or

combines the other factors of production. He / She does this to earn a profit. Entrepreneurs
should find new and innovative ways to produce goods and services.

Entrepreneurs are vital for economic growth. They help build some of the largest firms and they
help build some of the small ones in a person’s neighborhood. For example, Bill Gates and
Henry Ford are two entrepreneurs that revolutionized the world with their technology.

The payment to entrepreneurship is profit.

Without the entrepreneur combing land, labor and capital in may ways, many of the
innovations around us would not exist.

Enterprise is the factor of production that organized the other factors of production into a
production unit to produce a good/service. Entrepreneurs undertake a lot of risks in hope of
making a profit.

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LABOR

Labor is the effort to the production of goods and services. Labor is paid through wages and
salaries.

Labor is a very crucial factor of production. There are many characteristics of labor. Some are as
follows:

 Labor is inseparable from the Laborer

 Labor requires Human effort
 Labor has poor bargaining power
 The supply of labor is relatively inelastic
 Labor is perishable in nature

Labor is inseparable from the Laborer. This simply means that the physical presence of the
laborer is compulsory. The laborer can not be separated from his labor.

Labor requires human effort. This factor of production is directly related to human effort. When
considering labor, the following factors must be considered. Fair treatment of worker, rest
times, suitable work environment and others.

Labor has poor bargaining power. Labor has very weak bargaining power with the buyer of the
resources. This essentially means that the laborers are forced to work for whatever wages the
employer offers. They cannot bargain for more.

The supply of labor is relatively inelastic. The supply of labor cannot be increased instantly to
keep up with the demand. Skilled laborers cannot be generated in a week, a day or a year.
Labor may be imported for a short period of time. The supply of labor is said to be inelastic
because it cannot be increased or decreased instantaneously.

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Labor is perishable in nature. Labor has no storage capacity. For example, if a worker does not
show up for his or her shift, that shift is totally lost and it cannot be regained. A laborer cannot
store his labor to use at another time.

Labor Productivity is the output that each employed person creates per unit of his or her time.
It is essentially how the well the worker does things. For example, a Canadian worker makes 10
loaves of bread in an hour, while a U.S. worker makes 2 loaves of bread in the same time. In this
fictional example, it is best to say that the Canadians are more productive.

Being more productive essentially means that a worker can do more in the same amount of
time. This is turns frees up resources to be used elsewhere.

There are determinants of labor productivity. There are as follows:

 Physical capital
 Human capital
 Technological change

Physical capital can be thought of as the tools workers have to work with. Physically capital
includes the plant/factory and equipment used by firms. Physical capital can be also
infrastructure. For example, roads

Greater physical capital implies more output.

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Physical capital can affect productivity in two ways. There are as follows:

Way (1) -> an increase in the quantity of physical capital.

Way (2) -> an increase in the quality of physical capital.

An example for way (1) is production of more computers of the same quality.

An example for way (2) is production of the same umber of computers but there are of a higher
quality. They are faster are so on.

Human capital is the accumulated knowledge and experience an average in the economy
possesses. Typically, the higher the average level of education in an economy, the higher the
accumulated capital and the higher the labor productivity.

Technological change is a combination of invention and innovation. Technology can change

how people work. For example, the use of machinery in the production of sugar cane sped up
the process.

Labor Efficiency simply means the productive capacity of a worker. It indicates the ability of the
worker to do more work or better work during a given period of time.

There are factors that influence or affect Labor Efficiency. There are as follows:

The ability and willingness of the workers to work and learn new skills depends on their health
and work ethic.

Literacy is perhaps is the first priority to improve the efficiency of labor. Employers should
adequate enough time for training of their workers.

A healthy and conducive work environment increases the level of efficiency. The facilities
available at the work place determine the labor efficiency to a great extent.

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Climate differences also affect the efficiency of labor in production. A hot and humid climate
can prevent people from doing more work efficiently while a favorable climate allows workers
to do more work efficiently.

The labor supply is defined as the number of workers who are willing and able multiplied by the
hours, they are willing and able to work.

The labor force is the total number of people who are currently employed plus the number of
people who are unemployed and seeking employment. A person must be willing and able to
work to be apart of the labor force.

The labor force can be increased. It can be increased through the following:

 migration
 having higher skill training and education for people
 population growth
 adjusting the minimum age to work

Migration is one of the easiest ways for a county’s labor force to be increased. Migration can
come in the form of Immigration, Emigration, Internal and International.

To clarify, immigration refers to a person coming to live in a new country permanently

Emigration refers to the act of a person leaving their home country to settle permanently in
another.

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Division of Labor & Specialization of Labor

These terms refer to the separation of a work process into a number of tasks with each task
performed by a separate person or group of persons. Division of Labor is often applied to
businesses that aim to produce on a large scale. Their aim is mass production.

The following are some advantages of division of labor and specialization of labor

 Greater Efficiency
 Right person for the Right Job
 Better Quality of Work
 Less Strain
 There are less learning periods for employees
 It saves time

The following are some disadvantages of division of labor and specialization of labor.

 Risk of worker alienation

 Risk of disruptions to production process
 Risk of structural unemployment due to occupational immobility.

THE TERMS MEAN THE SAME THING

Division of labor refers to the labor process

Specialization of labor refers to the product.

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SHORT RUN & LONG RUN

Short run – it is the period of time where there is at least one fixed factor of production

Long run – it is the period of time where all the factors of production have become variable.

The long run is a period of time in which all factors of production and costs are variable. In the
long run, firms are able to adjust all costs, whereas, in the short run, firms are only able to
influence prices through adjustments made to production levels.

There are fixed and variable factors of production

Fixed factors of production can only change in the long run

Variable factors of production can be changed in both the long run and the short run.

Some common examples of fixed factors of production are as follows:

 Buildings
 Land
 Machinery
 Plants

Some common examples of variable factors of production are as follows:

 Ordinary labor
 Power
 Fuel/Energy

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Variable factors are those that do change with output This means that more factors are
employed when production increases.

Fixed factors are those factors that do not change as output is increased or decreased.

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COSTS

There are costs that are associated with production. There are as follows:

 Fixed Cost
 Variable Cost
 Total Cost
 Average Cost
 Marginal Cost

Fixed cost – a cost that does not change or is unaffected with an increase or decrease in output.

Variable Cost – a cost that varies with the level of output. Variable costs increase or decrease
depending on a company’s production volume. Variable cost rise as production increases and
fall as production decreases.

Total Cost – It is the total economic cost of production.

Average Cost – This cost refers to the total cost of production divided by the number of units
produced.

Marginal Cost – This is the change in total production that comes from making or producing
one additional unit. (the marginal product)

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Each cost has a specific calculation.

 To calculate Variable Cost = Total Cost – Fixed Cost

 To calculate Total Cost = Fixed Cost + Variable Cost
 To calculate Average Cost = Total Cost/Output

For the Fixed Cost:

 As stated before, the fixed cost is a cost that does not change with an increase or
decrease in output. It is logical to say that the fixed cost remains constant.

For the Marginal Cost

 To calculate Marginal Cost = Change in Total Cost/Change in Output.

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Each Cost can also be graphed.

Graph showing the Total, Fixed and Variable Costs

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Observations:

 The Total cost is a straight line.

 The Variable Cost graph is parallel to the Total Cost graph. From the graph, the Total
Cost is above the Variable Cost.

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Graph showing the average cost curve

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Observations:

This graph is shaped like a U or an upward slop due to it being directly affected by a change in
production output. A person’s average cost can increase and decrease due to their levels of
output.

Creating a hypothetical scenario

First person

In this scenario, a person has a high average cost. Due to a person having a high average cost,
their benefits or profits would be minimal. They would have to spend more and more money on
their expenses. This person runs a business. The average cost affects their business.

Second person

In another situation, a person has a low average cost. In this scenario, this person would
experience an opposite situation as compared to the first person. This person also runs a
business.

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Graph showing the Marginal Cost curve

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Observations:

The marginal cost is an upward sloping cost curve. Usually, the marginal and average cost and
graphed together. The average cost starts off slopping upward first. The marginal cost then
follows. The two graphs eventually intersect. The point of intersection is called productive
optimum. The marginal cost then begins to slope upward, it eventually goes higher than the
average cost.

The point of intersection (productive optimum) is the lowest point of the Average Cost Curve.

Also, everything on the left-hand side of the average cost graph is labelled as economies-of-
scale while everything on the right-hand side of the average cost graph is labelled as
diseconomies-of-scale.

Before productive optimum, the relationship between the Average Cost and Marginal Cost is
one in which the Average Cost is higher than the Marginal Cost. At this point in time a business
would experience economies-of-scale.

After productive optimum, the relationship between both curves is one in which the Marginal
Cost is higher than the Average Cost. At this point in time a business would experience
diseconomies-of-scale.

The Marginal goes above the Average Cost because it is logical to assume that additional units
are more costly to produce.

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Productive optimum is also called Productive efficiency. Productive efficiency is an economic
term describing a level in which an economy or entity can no longer produce additional
amounts of goods without lowering the production level of another product.

Productive efficiency similarly means that an entity is operating at maximum capacity.

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GOODS & SERVICES

Goods and services are two terms that are stated in economics. However, both terms do not
mean the same thing.

Goods -> These are the material items that the customers are to purchase for a price. Goods
are the tangible items. These items can be touched. Some examples of goods are cars, clothes
and food

Services -> These amenities, benefits or facilities provided by other persons. Services are
intangible items. These items can not be touched. Some examples of services are teachers
teaching, a hairdresser cutting a person’s hair and a doctor curing someone. Teachers would fall
under education. A hairdresser would fall under beauty. A doctor would fall under medicine.

Some goods can be used to provide some services. For example, a car can be used to provide a
transport service.

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RESOURCE ALLOCATION

Resource allocation is the assignment of available resources to various uses. In a free market
economy, resources are allocated through the interaction of free and self-directed market
forces.

Resource Allocation is usually determined by certain questions. Those questions are as follows:

 What to produce?
 How much to produce?
 For whom to produce?

In respect to a free market economy, what to produced is determined by the consumers, how
to produce is determined by producers and for whom to produce depends upon the purchasing
power of consumers.

Purchasing power is the amount of goods and services that can purchased with a unit of
currency. It is the value of a currency expressed in terms of the amount of goods or services
that one unit of money can buy.

Purchasing power is important because, all else being equal, inflation decreases the amount of
goods and services a person would be able to purchase.

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ECONOMIC SYSTEMS

What is an economic system?

An economic system is a means by which societies or governments organize and distribute

available resources, services and goods across a geographical area or region.

There are many types of economic systems. Some are as follows:

 Traditional
 Command or Planned
 Free or Capitalist
 Mixed

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Traditional

A traditional economy is a system that relies on customs, history and time-honored beliefs.
Tradition guides economic decisions such as production and distribution. Societies with
traditional economies depend on agriculture, fishing, hunting, gathering or some combination
of them.

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The table below details the structure of a traditional economy as it relates to resource
ownership, decision making, what motivates decision, advantages and disadvantages.

Resource Decision What motivates Advantages Disadvantages

Ownership Making decisions?
Individual, families Customs or The needs of the This economic They can be
or tribes traditions of the people/tribe. system devasted by
elders. produces no natural disasters
industrial
pollution The population
or tribe starves if
It centers a harvest or
around the hunting is poor
family
There are fewer
This economy choices to be
allows for made in a
movement and traditional
freedom. economy. Every
decision has to
be made for the
betterment of
the tribe.

This economic system does not usually incorporate industrialization. The population in this
economy are usually hunter gathers. They rely on battering, agriculture and hunting.

In this economy, there is little to no wastage of resources. The resources are used for the
betterment of the tribe or family.

This economy usually relies on subsistence farming.

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Command/Planned/Socialist

A command economy is a system where the government, rather than the free market,
determines what goods should be produced, how much should be produced and the price at
which the goods are offered for sale.

A socialist economy one whose political and economic system is based on public ownership. In
a purely socialist society, all legal production and distribution decisions are made by the
government and individuals rely on the state for everything from food to healthcare

The government determines the output and pricing levels of these goods and services.

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The table below details the structure of a command economy as it relates to resource
ownership, decision making, what motivates decision, advantages and disadvantages.

Resource Decision Making What motivates Advantages Disadvantages

Ownership decisions
The government The government To satisfy the Less inequality It is a
or central needs of the government
authority citizens, society Low structure which
and country. unemployment reduces
levels personal
Social benefits freedoms
motivate It creates a
decisions. The flexible It limits
social benefits industrial sector innovation from
are those of the citizens
country
It encourages
citizens to
engage in illegal
acts to attain
goods or
services.

This economic system is driven by the principle of socialism.

The resources may be under ‘public ownership’ but the government or state authority decides
what happens to said resources.

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Free/Capitalist

Capitalism (A free market/Capitalist) is often thought of as an economic system in which private

actors own and control property in accord with their interest and demand and supply and freely
set prices in markets in a which that can serve the best interest of society.

In this economic system there is little to no government control. The economy is handled by the
private sector.

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The table below details the structure of a capitalist economy as it relates to resource
ownership, decision making, what motivates decision, advantages and disadvantages.

Resource Decision Making What Advantages Disadvantages

Ownership motivates
decisions?
Private Consumers or Ownership of Innovation is Tend to produce
individuals or private resources encouraged inferior goods
private businesses. and services
corporations Market forces Competition is
encouraged It harms the
Supply and environment
demand It provides a
society with the Commodity
The desire for right goods and prices usually
profit services being rise.
available at the
right time.

This economic system is driven by the desire for profit. The forces of supply and demand
heavily influence this economic system.

The free market economic system is based on supply and demand with little to no government
control.

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Mixed

A mixed economic system is a system that combines aspects of both capitalism and socialism. A
mixed economic system protects private property and allows a level of economic freedom in
the use of capital, but also allows for governments to interfere in economic activities in order to
achieve social aims.

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The table below details the structure of a mixed economy as it relates to resource ownership,
decision making, what motivates decision, advantages and disadvantages.

Resource Decision Making What motivates Advantages Disadvantages

Ownership decisions?
The government The leaders of a Self-interest. Promotes quick It brings about
and private country. It could economic the fear of
individuals be the Social benefit development nationalization
government,
private Profit Creates a More wastage of
individuals or a balance in resources
To satisfy the regional
combination of
needs of the developments Instability
both.
citizens of the
country It encourages Lack of
lesser income Efficiency
inequality
Delay in
economic
decisions

This economic system is a mixture of a command economy and a free market economy. This
economic system shares aspects from both of the previously mentioned.

This economic system is the most common economic system.

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HOW FIRMS OPERATE UNDER DIFFERENT MARKET STRUCTURES

With respect to a free market economy.

In a free market economy, the law of supply and demand, rather than a central government,
regulates production and labor. Companies/firms sell goods and services at the highest price
consumers are willing and able to pay. Workers earn the highest wages companies are willing
and able to pay for their services.

With respect to a command economy.

The government that runs a command economy operates monopoly businesses/firms or

entities that are considered necessary in order to meet the goals of the national economy. All
businesses/firms follow that plan and its targets. These businesses/firms cannot respond to any
free-market forces or influences.

With respect to a mixed economy

A mixed economy permits private participation in production, which in return allows healthy
competition that can result in profit

A mixed economy means that part of the economy is left to the free market and part of it is
managed by the government. Mixed economies start from the basis of allowing private
enterprise to run most businesses/firms.

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With respect to a traditional economy

These economies are usually not as developed as the others mentioned. If there are businesses
in this economic system, they would operate under the influence of a tribe, family relations,
customs and or history.

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ECONOMIES & DISECONOMIES OF SCALE

Economies of scale are the benefits/advantages a firm obtains with an increase in size. It is
where the total average cost falls as the quantity of output increases.

One way in way companies can experience economies of scale is as follows:

1. By increasing production and lowering cost

Economies of scale give rise to lower per-unit costs. Here are a few reasons why:

 Specialization of labor and more integrated technology boost production volumes.

 Lower per-unit costs can come from bulk orders from suppliers, larger advertising buys,
or lower cost of capital.
 Spreading internal function costs across more units produced and sold

Internal functions include accounting, information technology and marketing.

A business’s size is related to whether it can achieve an economy of scale. Larger companies will
have more cost savings and higher production levels. This would mean that they could achieve
economies of scale. In contrast to a smaller business.

NOTE:

A firm is an individual business unit.

An industry is a collection of firms producing similar items and or services.

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Economies of scale are of two types:

 Internal
 External

Internal economies of scale are benefits to the firm that originate from the organization itself.

External economies of scale these are benefits given to the firm that originate outside the firm.

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Internal economies of scale

Some examples of internal economies of scale are as follows:

 Technical
 Managerial
 Financial
 Marketing
 Risk bearing

Technical -> Technical economies of scale arise due to large scale production because there is a
mechanical advantage in the use of large machines.

Managerial -> When a firm expands its output or enlarges the scale of production it follows the
principle of division of labor. It creates special departments, for example marketing and
processing cost accountant. This causes the production process to run more smoothly. As a firm
expands, it will not need to expand its administrative staff to the same degree as its output.

Marketing -> These economies arise from the purchase of raw materials and sale of finished
goods. There are two types of marketing economies of scale. There are as follows:

Buying economies – Larger firms are able to buy in bulk

Selling economies – Larger firms are able to carry out large advertising campaigns.

Financial -> This may arise due to the reason that large scale firms have better credit facilities or
capital assets. This therefore allows them to access financing easier.

Risk bearing -> This allows a firm to spread risk by having a number of different products to fall
back on.

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Economies in the use of labor -> As the firm grows, it employs more labor. This allows for a
greater specialization/division of labor. This would lead to greater productivity and increased
output.

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External economies of scale.

As stated before, these are benefits that are given to the firm which originate from outside the
firm.

For example:

 Improved infrastructure
 Agglomeration
 Labor

Improved Infrastructure -> Larger firms might be able to induce local governments to improve
roads, bridges, and general infrastructure. All firms in the area will benefit.

Agglomeration -> Large firms might encourage related firms to set up nearby. This is, therefore,
a cluster of similar firms that benefit from each other.

Labor -> The clustering of firms encourages the development of a skilled labor pool. Workers
trained by one firm might shift to another firm nearby.

Use of waste products -> Some firms might use other firms’ waste or even by products, in their
production process.

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Diseconomies of scale.

Diseconomies of scale are the drawbacks a firm obtains with an increase in size in the long run.
This is where the total average cost rises as the quantity of output increases.

For example:

 Loss of managerial control

 Poor industrial relations
 Overspecialization

Loss of managerial control -> As the company grows, it might become difficult to manage
effectively. There might be to many levels of management. Communication might not be open
anymore.

Poor industrial relation -> As the company grows, workers become isolated from the
management. This can lead to half-hearted working, poor quality output, work stoppages and
shrikes, as workers do not have a voice in the decision-making process.

Overspecialization -> As workers become more and more specialized, this might lead to
boredom and reduced quality of work.

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Law of Diminishing returns

The law of diminishing marginal returns is a theory in economics that predicts that after some
optimal level of capacity is reached, adding an additional factor of production will actually result
in smaller increases in output.

The law of diminishing marginal returns states that in any production process, adding one more
production unit while keeping the others constant will cause the overall output to decrease.

It is also called "the law of increasing costs" because adding one more production unit diminishes the
marginal returns, and the average cost of production inevitably increases.

Go to this site for an example.

https://study.com/academy/lesson/law-of-diminishing-returns-definition-examples-quiz.html

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A farmer owns a certain amount of land and can use fixed amounts of seeds, water and human
labor. However, they can increase the amount of fertilizer they use to increase production
yield. As the number of used fertilizers increases, the same land will produce a better crop than
before. After a certain point, however, adding more fertilizer will not result in the same
increase in output, as too much fertilizer could damage the crops

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EXTRA NOTES:

When dealing with marginal product, minus the new output from the old.

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