Lecture 13 & 14

Law of Variable Proportions &

Iso-Quants
Dr. Qais Aslam
 Law of Variable Proportions (Input – Output Ratio)
• Law of Variable Proportions show the increase or decrease in
marginal output (Returns = Productivity) of a firm when three
factors of production (Land; Capital and Entrepreneur) remain
constant while there is an increase in one input (labor).
• Law of Variable Proportions also show us when to change a
machine for a better technology.
• Because if all machines are changed together than it becomes
cost ineffective for the firm and if no machine is changed it
again becomes cost ineffective for the firm in the long run.
• Therefore Rule of 3 is used
•• Inputs:
  Inputs are resources used in the production of goods and services = Factors of
Production = Land + Labor + Capital + Entrepreneur (organization)
• 𝑄 =𝑓 (, 𝑁) = Short Run Production Function
• Where K = Capital; N = Labor inputs; Q is quantity of output and bar over K shows that Capital
is constant (does not change) in the short run model
• 𝑄 =𝑓 A (K, 𝑁), = Long term Production function
• Where A is the level of technology used in the long run model
• Total product (Output), Marginal product and Average product. Total productivity of Labour
(TPN)
• Marginal Product of Labour (MPN) = = Rate of Change in productivity (output) relevant to
change in units of input
• and
• Average product of Labour (APN) = = per unit productivity (output)
• MPN = APN
=
• Marginal product = Average product
Inputs

q1 q2
q3
outputs
 Laws of Variable Proportion (Output)
1. Law of Increasing Marginal Product (MP)
• When with Rs. (PKS) 1 input the output increases with more than Rs. (PKS) 1.
When machines are new and labor is skilled. Every Rs. Input of Labor resource will
give us more than 100% output, which will constantly rise. (Usually in Industry)
2. Law of Constant Marginal Product (MP)
• When with Rs. (PKS) 1 input the output increases with Rs. (PKS) 1. Every Rs. Input
of Labor resource will give us 100% output, which will remains constant. When
machines are relatively old and labor is also getting old
3. Law of Diminishing Marginal Product (MP)
• When with Rs. (PKS) 1 input the output increases with less and less than Rs. (PKS)
1 or Every Rs. Input of Labor resource will give us less and less than 100% output,
until it becomes zero and than a minus. When machines have crossed their
economic life (MP = AP) and labor is unskilled or very old (Usually in Agriculture)
 Relationship between MP and TP
1. When MP is rising from O to A, TP curve is also rising from O’ to A’ but at a fast pace,
therefore TP curve is steep (Law of Increasing Marginal Returns or Product) because
machines are new and labor is young and skilled.
2. When MP is constant from A to E, TP is still rising but at a lesser pace, therefore the TP
curve is less steep (Law of Constant Marginal Returns or Product) because machines are
less new and labor is less young or less skilled.
3. When MP is Diminishing from E to C, TP is still rising but at a flatter pace, therefore the TP
curve is flat (Law of Diminishing Marginal Returns or Product) because machines are old
and labor is older, unskilled or lazy.
4. At Point C MP is Zero while TP is at its highest at point C’ and After point C MP is minus
and TP curve starts to fall.
• Note: Total Product (Returns or Output) will not give us the real picture, as it rises all along
the production process from O to C’. Marginal Product will give us the real picture, whether
the firm’s output levels in relation to inputs are increasing, decreasing or are constant; at its
minimum or in the negative.
 Optimum position of the firms Input: output ratio
• When to change machines or labor input
• Where AP = MP this is the point where the economic life of a
machine ends
1. When MP is rising, AP is also rising but at a slower pace, the AP
curve lies below MP curve
2. When MP is falling, the AP is also falling but at a faster pace,
therefore AP curve lies above MP curve
3. At point E, AP = MP after which the law of Diminishing Marginal
Product will set in.
• Therefore change the machine or labor input at point E where
• AP = MP
 Concept Of Iso-Quants And Iso-Cost Line
Producers Equilibrium or Output Maximization And Cost
Minimization
•• Iso
  Quants & Iso-Cost Line
• Iso Quants show the substitution levels of the firm between Capital and Labor
• Iso-Quants are down ward sloping
• Iso-quants are Convex to the Origin Curves
• Iso- quants are parallel to each other curves
• MRTS = Marginal Rate of Technical Substitution
• MRTS =
• Slope of Iso-quant =
• Higher the iso-quant higher the productivity. Lower the iso-quant, lower the productivity
• On all points points of the same iso-quant the productivity from any combination of labor and
capital is the same.
• Iso-cost line is the price of labor and capital inputs = Pn/Pk = w/i (wage / interest).
• Point of Tangency between Iso-cost line & highest possible iso-quant is the equilibrium point of
the firm where MPn/MPk = Pn/Pk = w/i
Production Process & isoquants
• Assumption: that a particular commodity can be produced
with only a limited number of input combinations. Each of
these input combinations or ratios are called a Production
Process or activity and can be represented by a straight line
(ray) from the origin into outer space.
• By joining the points of equal output on the ray of process,
we define the iso-quant for the particular level of output of
the commodity.
• These isoquants will be made up of straight line segments
and have kinks rather than being smooth
• The left panel shows production process 1 using k/N = 2 (One unit of Capital
and 2 unis of labor inputs) ; process 2 using k/N = 1 (One unit of Capital and
one unit of Labor inputs); and process 3 using k/N = ½ (one unit of Capital
and half unit of labor inputs) that the firm can use to produce a particular
commodity
• The right panel shows that for example 100 units of the quantity can be
produced using 6K and 3N at point A; 4K and 4N at point B and using 3K and
6N at point C. Joining these points we get the isoquant for 100Q.
• Because of the constraints returns to scale, using twice as many inputs along
the production process (rays) result in twice as much inputs. Joining these
points D, E and F we get isoquant for 200Q. With iso-cost line JH the feasible
region is triangle JON and the optimal solution is at the point E where the
firm uses 8K: 8N and produces 200Q.
• To save costs the firm will produce the first 100Q at OA with process 1 and
the next 100 Q at point OE with process 2. (Input mix or Capital-Labor Mix)