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Law of Variable Proportions/Law

of Diminishing Returns

Law of variable proportions occupies an


important place in economic theory. This
law examines the production function
with one factor variable, keeping the
quantities of other factors fixed. In other
words, it refers to the input-output
relation when output is increased by
varying the quantity of one input.

Statement of Law of Variable Proportions

When the quantity of one factor is varied,


keeping the quantity of other factors constant,
the proportion between the variable factor and
the fixed factor is altered; the ratio of the
variable factor to that of the fixed factor goes
on increasing as the quantity of the variable
factor is increased but after a certain point,
first the marginal then the average product and
then total product of that factor will diminish.

Assumptions of the Law:


1. First, the state of technology is
assumed
to
be
given
and
unchanged/constant.
If
there
is
improvement in the technology, then
marginal and average products may rise
instead of diminishing.
2.Secondly, there must be some inputs
whose quantity is kept fixed. This is one
of the ways by which we can alter the
factor proportions and know its effect on
output. This law does not apply in case all

3.Thirdly the law is based upon the possibility of


varying the proportions in which the various
factors can be combined to produce a product.
The law does not apply to those cases where
the factors must be used in fixed proportions
to yield a product.
4.The law of variable proportion applies only in
short period.
5.Labour is homogeneous.
6.Physical input and output:- The law studies the
relationship of physical input and output only
i.e impact of change in, one input on output
keeping all factors fixed. It does not give any
details of input and output in monetary terms.

Three Stages of Law of Variable Proportion :


Increasing return
Diminishing return
Negative return
Assume that there is a given fixed amount of
land, with which more units of the variable factor
labour, is used to produce agricultural output.
1. Increasing return : With a given fixed
quantity of land, as a farmer raises
the total product increases at an increasing rate
Marginal product also rises and reaches its maximum and
then start falling but still it is more than average product.
Average product throughout rises though the rise is less
than marginal product.

REASONS OF INCREASING RETURNS :


1. Fixed factor is indivisible
/inseparable.
2. Fixed factor is relatively more
than the variable factor.
3. Factor is
unsatisfactory/imperfect substitutes
of each other.
4. Combination of fixed factors and
variable factors moves towards the
best (best proportion).
5. As more of variable factor is
applied fixed factor gets properly

Diminishing return : When to the fixed


factor, doses of variable factor is added
one by one, firm gets diminishing returns
TP : the total product continues to
increase at a diminishing rate until it
reaches its maximum point where the
second stage ends.
MP AND AP : In this stage both the
marginal product and the average
product of the variable factor are
diminishing but remain positive.
At the end of the second stage, marginal
product of the variable factor is zero .

THE REASONS FOR DIMINISHING


RETURNS :
1. Fixed factor is overutilised. It is
inadequate relation to variable factor.
2. Factors are imperfect substitutes of each
other.
3. The combination of fixed factor and
variable factor is disturbed.

Stage of Negative Returns:


In stage 3 with the increase in the
variable factor the total product declines
and therefore the total product curve TP
slopes downward.
marginal product of the variable factor is
negative and the marginal product curve
goes below the X-axis. In this stage the
variable factor is too much relative to the
fixed factor. This stage is called the stage
of negative returns,
average product goes on falling but does
not become negative like the marginal

The reasons for NEGATIVE


MARGINAL RETURNS:
1. Overcrowding of variable factor
disturbs the smooth production
schedules.
2. Addition of variable factor affects
the efficiency of earlier factors of
production.

Law of Variable Proportions


No of Workers
L

Total Product

Marginal

Average

Product (MPl )

Product (APl )

24

24

24

72

48

36

138

66

46

216

78

54

300

84

60

384

84

64

462

78

66

528

66

66

576

48

64

10

600

24

60

11

594

-6

54

12

552

-42

46

(TPl)

Stages of
Returns
I)
Increasing
Returns

II)
Diminishing
Returns

III) Negative
Returns
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Law of Variable Proportions


Panel A
TPl

T
o
t
a
l
p
r
o
d
u
c
t

TP rises at an increasing
rate till the employment of
the 5th worker.
Beyond the 6th worker until
10th worker TP increases
but rate of increase begins
to fall
TP Decrease from 11th
worker onwards.

Labour

This shows Law of


Diminishing Marginal
returns

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Law of Variable Proportions


Panel B
AP/MP

Panel B represents
Marginal and
average
productivity
curves of labour
APL

labour

M MPL
P
L

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Law of Variable Proportions


Significance of Law of Diminishing
Marginal Returns:
- Empirical law, frequently observed in
various production activities
- Particularly in agriculture where
natural factors (say land), which play
an important role, are limited.
- Helps manager in identifying rational
and irrational stages of operation
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Law of Variable Proportions


- It provides answers to questions
such as:
a) How much to produce?
b) What number of workers (and
other variable factors) to employ in
order to maximize output
In our example, firm should employ a
minimum of 7 workers and maximum
of 10 workers (where TP is still rising)
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Law of Variable Proportions


- Stage III has very high L-K ratio- as a
result, additional workers not only
prove unproductive but also cause a
decline in TPl.
- In Stage I capital is presumably
under-utilised.
- So a firm operating in Stage I has to
increase L and that in Stage III has to
decrease labour.
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