Transformation processes

Resource Output
Inputs combination
 Some terminologies
• Fixed Inputs -factors must be maintained (i.e. paid for,
kept up, etc.) whether production occurs or not (land,
buildings, heavy machinery, etc.)
• Variable inputs -factors that vary as the output level
changes (labor, fertilizer, seed, etc.)

• Short Run vrs Long Run

• Immediate Short-Run: Time span so short that no
resource changes can be made; all factors of production
are fixed.
• Short-Run: Time span such that some factors are
variable & some factors are fixed.
• Long-Run: Time span so long that no inputs are fixed.
 Production Function

• The technical relationship between inputs

and output indicating the maximum
amount of output that can be produced
using alternative amounts of variable
inputs in combination with one or more
fixed inputs under a given state of
technology.
 The Production Function
• The function can be expressed in many
ways: equation form, tabular, graphical

• equation form: Y = f(X1, X2, X3,…, Xn)

Y = output or yield, the X’s are different

inputs (eg X1 = quantity of feed, X2 =
Quantity of drugs etc) that are used in
the production of Y.
• examples: Y = yield (eg number of
eggs)
 Production curves
Total Physical Product (TPP)
It indicates the total amount of output produced at each level
of input use, ceteris paribus .

Average Physical Product (APP)

It shows how much production, on average, can be obtained
per unit of the variable input with a fixed amount of other
inputs.
APP = TPP / X

Marginal Physical Product (MPP)

•It represents the amount of additional (i.e., marginal) TPP
obtained from using an additional unit of variable input (X).
•It is the slope of the TPP curve.
MPP = ΔTPP / ΔX
 Law of Diminishing Marginal Physical Product
 As additional units of one input are combined with a fixed
amount of other inputs, a point is always reached where the
additional product received from the last unit of added input
will decline.

 Eg. assume that there is a fixed supply of capital (e.g. 20

units) available in the production process to which extra units
of labour are added from one person through to eleven.

 Initially the marginal product of labour is rising.

 It peaks when the sixth worker is employed when the marginal
product is 29.

 Marginal product then starts to fall. Total output is still

increasing as we add more labour, but at a slower rate. At this
point the short run production demonstrates diminishing
returns.
Capital Input Labour Input TPP MPP APP
20 1 5 5
20 2 16 11 8
20 3 30 14 10
20 4 56 26 14
20 5 85 28 17
20 6 114 29 19
20 7 140 26 20
20 8 160 20 20
20 9 171 11 19
20 10 180 9 18
20 11 187 7 17
 Egg production per year from a particular farm

40
TPP
Number of eggs produced per year

30

20

10

0
0 1 2 3 4 fig 5 6 7 8
Number of farm workers
Egg production per year from a particular farm
40

Number of eggs per year

TPP
30

20

10

0 Number of
0 1 2 3 4 5 6 7 8 farm workers (L)
14
Number of eggs per year

12

10

0
0 1 2 3 4 5 6 7 8 Number of
-2
fig farm workers (L)
MPP
 Relationships between Product Curves
 MPP is the slope of TPP.

 At the inflection point (point of diminishing MPP):

• TPP Δs from increasing at an increasing rate to increasing at a decreasing
rate
• –MPP reaches a maximum.

 MPP = 0 occurs when TPP is maximum

 MPP is negative beyond the maximum point of TPP

 Drawing a line from the origin which is tangent to the TPP curve gives the
maximum point of APP

 At the point where APP is maximum, MPP crosses APP and MPP = APP

 When MPP > APP, APP is increasing

 When MPP < APP, APP is decreasing

 Stage 1 of Production
• TPP increases at an increasing rate.
• This means that MPP is increasing.
• In this stage of production all workers should be hired as
each additional worker adds more than the previous
worker to total production.
• APP increases and reaches its maximum. This maximum
indicates the end of Stage 1
• MPP increases, reaches a maximum and decreases to
APP
• Stage 1 is an irrational stage because APP is still
increasing.
• Because the output per unit of the variable input is
improving throughout stage 1, a price-taking firm will
always operate beyond this stage.
 Stage 2 of Production
• Physical efficiency of the variable input is at a peak at the
beginning of Stage 2
• Stage 2 ends when yield (TPP) is at its maximum
• TPP is increasing at a decreasing rate. That is MPP is
decreasing.
• APP is decreasing
• MPP is decreasing and less than APP, but still positive
• In this stage, also known as “the economic region of
production”, the firm will locate the profit maximizing
amount of workers to hire.
• This region is the rational stage of production because
TPP is still increasing
• The tradeoff between TPP and APP in this region is the
core of economic decision making and requires the skills
of the decision maker.
 Stage 3 of Production
• starts once TPP starts to decline

• This is the result of excessive quantities of variable input

combined with fixed inputs

• TPP is decreasing and the MPP is negative.

• The firm should therefore not hire workers in this region.

• APP is decreasing

• MPP is decreasing and negative

• This stage too is an irrational stage because TPP is

decreasing
 Economic Recommendations
• using logic you can see that if your production follows
that of the example given, you should increase inputs
to achieve a production level at least until Stage 2 is
reached;
• it doesn’t make sense to stop increasing input if its
efficiency is increasing
• even if inputs are free, you don’t want to be in Stage 3;
• the largest amount of input you would use is that at the
end of Stage 2
• the area of economic relevance is within Stage 2 for
farms that buy inputs, transform them into produce and
sell in competitive markets