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PRODUCTION ANALYSIS

• INTRODUCTION
• Production is basically an activity of transformation which
transfers inputs into outputs.
• Farms use land, labor, seeds and small amount of capital as
inputs to produce output like corn.
• Similarly, a flour mill uses inputs like wheat, labor, capital
for machinery, factory building to produce output like wheat
flour.
• So, an input is the goods or services which produce an
output.
• The firm generally uses many inputs to produce an output.
• Output of any firm may be the inputs of other firms, e.g.,
steel is an output of the steel producer, but this steel is also
an input of automobile or rail coach manufacturing or
refrigeration manufacturing or air-condition manufacturing
industries.

PRODUCTION ANALYSIS • The transforming process of inputs into output can be three types: • i) change in form (output should be new form compared to inputs. for example cloth as output and thread as input) • ii) change in space (transportation) • iii) change in time (storage). . • The transformation process or production increases the consumer usability of goods and services.

• Hence. • Take the example of cloth. . PRODUCTION ANALYSIS • Production Function • A production function is the technical relationship between inputs and outputs. power loom or computerized machines. • You can see various types of raw materials and technology options will create several possible ways of producing the same product. • A commodity may be produced by various methods using different combinations of inputs with given state of technology. it may be produced by using cotton or silk or polymer as raw materials with handloom. there can be several technically efficient methods of production.

xn) ……………. Q is maximum quantity of output of a good being produced. • Technical efficiency is defined as a situation when using more of one input with either the same amount or more of the other input must increase output. . • Normally a production function is written as....xn are the quantities of various inputs used in production. PRODUCTION ANALYSIS • Production function shows the maximum quantity of the commodity that can be produced per unit of time for each set of alternatives inputs..…. x2.…. x2.…………(i) • Where. • Q = f (x1. and x1. • A given amount of output can be produced by different combinations of inputs and each of these combinations may be technically efficient. and with a given level of production technology.

.. production functions are normally divided into two broad categories: • (i) with one variable input or variable proportion production function • (ii) with two variable inputs or constant proportion production function . some inputs like plant-size. E. K = capital.…. R. (ii) • Where. Q =output and the inputs are L. and machine equipments cannot be changed. E) ………………………. PRODUCTION ANALYSIS • If we replace x1. K. x2. R =raw material and E = efficiency parameter. K.. then the production function may be. • Q = f (L. I. I =land. • On the contrary in the long run input options are very wide. so a producer trying to increase output in the short run will have to do so by increasing only the variable inputs. L= labour.xn in (i) by the factors of production discussed above. • On the basis of such characteristics of inputs. • In short run. I. R.

producers have to optimize with only one variable input. • Such a production function is also termed as variable proportion production function. capital is fixed and labour is variable input. it is essentially a short term production function in which production is planned with variable input. PRODUCTION ANALYSIS • PRODUCTION FUNCTION WITH ONE VARIABLE INPUT • In short run. . • Therefore. any change in output can be manifested only through a change in labour input only. • Let us consider a situation in which there are two inputs. • You will notice as the amount of capital is kept constant and labour is increased to increase output. capital and labour. the ratio in which these two inputs are used will also change.

K0)……………………. Q is output. PRODUCTION ANALYSIS • The short run production function shows the maximum output a firm can produce when only one of its inputs can be varied. • It is easy to understand that as units of the variable input are increased. It can be written as: • Q = f (L.. total product is a function of labor and is given as: • TPL = f (K0.(iv) . the proportion of use between fixed input and variable input also changes. • This also implies that it is possible to substitute some of the capital by labor. • Therefore. L is labor and K0 denotes the fixed capital.………………(iii) • Where.…………………………. L)………. • To explain the concepts of average and marginal products of factor inputs consider the production function given in equation (iii). assuming capital to be constant and labor to be variable. short run production function is governed by law of variable proportions. other inputs remaining fixed.

K10< K20< K30 . PRODUCTION ANALYSIS Q Q3 = f (K30. L) Q2 = f (K20. L) Q1 = f (K10. L) L Production Function with constant K.

PRODUCTION ANALYSIS • If instead labour is fixed in the short run. K) Q1 = f (L10.(v) Q Q3 = f (L30. L10< L20< L30 . K) Q2 = f (L20. the total product of the capital function can be similarly expressed as: • TPK = f (L0. K) …………………………………. K) K Production Function with constant L.

therefore it can be expressed as: • APL = TP / L………………………….(vi) • If instead of capital. labor is fixed in the short run.……(viii) .……. average product of the capital function (APK) can be similarly expressed as: • APK = TP / K……………………. • Thus marginal product of labor (MPL) would be: • MPL = dTP / dL …………………..(vii) • Marginal Product (MP) is defined as addition in total output per unit change in variable input. PRODUCTION ANALYSIS • Average Product (AP) is total product per unit of variable input.

not an economic problem.. PRODUCTION ANALYSIS • PRODUCTION FUNCTION WITH TWO VARIABLE INPUTS • Most simplistic form of production function with two variable inputs. • The best utilization of any particular input combination is a technical. . • Selection of best input combination for the production of a particular output level depends upon the input and output prices and is subject of economic analysis. labour (L) and capital (K). optimum utilization of inputs. is as follows. and a single output. it is assumed that the inputs are utilized in the best possible way.e. Q. • When the state of technology changes. • Further. • Q = f (L. the production function itself changes.…………………(ix) • This production function is constructed based on the assumption that the state of the technology is given and output can be increased by increasing inputs. i. K) ……….

states that with a given state of technology if the quantity of one factor input increased. . its marginal productivity will diminishing after some time. • The law of diminishing returns. • It states that as more and more one factor of production is employed. other factor remaining the same. PRODUCTION ANALYSIS • LAW OF VARIABLE PROPORTION OR LAW OF DIMINISHING RETURNS TO FACTORS • The slope of the total product curve is determined from the law of diminishing returns. • The law is also known as diminishing returns to factors. being empirical in nature. the quantities of other factor inputs remaining fixed. the resulting increment of total product will first increase and then decrease after a particular point. by equal increments.

reaches maximum and then decreases. • The law of diminishing returns to factors is depending on three assumptions. then the marginal productivity of labor first increased. • iii) This law is not applicable when two inputs are used in a fixed proportion and the law is applicable only to varying ratios between the two inputs. if we increase labor input and capital input remaining the same. . PRODUCTION ANALYSIS • For example. • ii) It is assumed that one factor of production must always be kept constant at certain level. • i) It is assumed that the state of technology is given.

e.g. PRODUCTION ANALYSIS • DIFFERENCE BETWEEN RETURNS TO A FACTOR AND RETURNS TO SCALE • The law of diminishing returns factors states that as more and more one factor of production is employed.. capital remaining the same. labour and other factor of production i..e. if we increase one factor of production i. . returns to a factor (variable factor) of production is first increasing in the initial level of production and then decreasing if we increase the amount of that variable factor of production. other factor remaining the same.. e. • So. its marginal productivity will diminishing after some time. then the marginal productivity of labour first increased. reaches maximum and then decreases.

MPL > 0. if additional units of labour are employed. if we increase more and more of that variable factor then the returns to the variable factor is negative. • In the very first stage of production. stage I would begin from the origin and continue to a point where APL attains its maximum value. PRODUCTION ANALYSIS • But. so marginal product rises. . • In the following figure. the total output increases more than proportionately. • In this stage. This stage is called as increasing returns to the variable factor. and MPL > APL.

PRODUCTION ANALYSIS TP TPL L TP Stage I Stage II Stage III APL MPL O L TP. AP and MP Curves .

• The law of returns to scale refers to the long run analysis of production. • If the production function is Q0 = f (K. marginal product of labor falls and this stage is called as diminishing returns to variable factors. Here. Here. or by different proportions. . PRODUCTION ANALYSIS • In the second stage. L) and we increase all the factors of production by the same proportion p. MPL < 0 and total product is decreasing. • In this stage. • The stage three is a technically inefficient stage of production and a rational producer will never produce in this stage. MPL > 0 and MPL < APL. the total product increases but less than proportionate to increase in labor. • It refers to the effects of scale relationships which implies that in the long run output can be increased by changing all factors by the same proportion.

L)]. p. then we can say there are Constant Returns to Scale (CRS). p. the new production function is Q* = f [(p. • If Q* increases in the same proportion as the factors of production. CRS & IRS . (p. • If Q* increases less than proportionately with an increase in the factors of production. PRODUCTION ANALYSIS • So.K). p. then we can say there are Increasing Returns to Scale (IRS). Q IRS CRS DRS Proportion (p) O Returns to Scale (DRS. then we can say there are Decreasing Returns to Scale (DRS). • If Q* increases more than proportionately with an increase in the factors of production.