The Production Function

Production refers to the transformation of inputs into outputs (or products)

Mathematically, we represent a firms production function as:
Q = f (L, K) Assuming that the firm produces only one type of output with two inputs, labor (L)
and capital (K)
3. The Production Function
The quantity of output is a function of, or depend on, the quantity of labor and capital used in
production
Output refers to the number of units of the commodity produced
Labor refers to the number of workers employed
Capital refers to the amount of the equipment used in production
We assume that all units of L and K are homogeneous or identical
Technology is assumed to remain constant during the period of the analysis
Q = f (L, K)
6. Total, Average, and Marginal Products
Total product (TP) is the total amount that is produced during a given period of time
Total product will change as more or less of the variable factor is used in conjunction with the
given amount of the fixed factor
Average product (AP) is the total product divided by the number of units of the variable factor
used to produce it
Marginal product (MP) is the change in total product resulting from the use of one additional
unit of the variable factor
9. Relationships among Total, Marginal, and Average Products of Labor Total product Labor
Labor Marginal product Average product AP L MP L TP L A L B L C A A B B C C
With labor time continuously divisible, we can smooth TP, MP L , and AP L curves
The MP L rises up to point A, becomes zero at C, and is negative thereafter
The AP L raises up to point B and declines thereafter (but remains positive as long TP is
positive)
The TP curve increases at an increasing rate up to point A; past this point, the TP curve rises at
a decreasing rate up to point C (and declines thereafter)
A ray drawn from the origin A = inflection point

Law of Diminishing Returns Total product Labor Marginal product Average product AP L MP L TP
LALBLCAABC
This law states that as additional units of an input are used in a production process, while
holding all other inputs constant, the resulting increments to output (or total product) begin to
diminish beyond some point (after A, in the bottom graph)
As the firm uses more and more units of the variable input with the same amount of the fixed
input, each additional unit of the variable input has less and less of the fixed input to work and,
after this point, the marginal product of the variable input declines
Another widely used assumption about MPL is the so-called law of diminishing product, which states that as l increases,
output will always increase less than proportionately, implying a concave production function (the explanation is the
same as for the one given above from point E on). Although this second law avoids the indivisibility
assumption (which is not necessary in the neoclassical productivity theory, and may lead to some theoretical
contradictions), it rests on an idea that is sometimes difficult to justify: that MPL will always decrease whatever the given
amount of K may be.
Both laws admit the possibility that a level of l may be reached at which MPL = 0, after which further increments of l will
cause the MPL to become negative. One could say that at this point the given capital stock will treat further additions of
labor as a disservice.
'Law Of Diminishing Marginal Productivity' An economic principle that states that while increasing one input and
keeping other inputs at the same level may initially increase output, further increases in that input will have a limited
effect, and eventually no effect or a negative effect, on output.

Average Product
Average product equals the units of output produced per unit of a factor of production while
keeping other factors of production constant.
The higher the average product, the more productive a factor of production is and vice versa.
Average product is different from average revenue product which equals the revenue earned
per factor of production while keeping other factors constant.
Formula
Average product =

Total Output in Units

Units of Factor of Production

Average product per unit of labor = 120 tons of total output/3,000 hours of labor = 40
kilograms per labor hour.
MARGINAL PRODUCT:
The change in the quantity of total product resulting from a unit change in a variable input,
keeping all other inputs unchanged. Marginal product, usually abbreviated MP, is found by
dividing the change in total product by the change in the variable input. Marginal product,
which occasionally goes by the alias marginal physical product (MPP), is one of two measures
derived from total product. The other is average product.
Marginal product is the extra output generated by an extra input. Marginal product lies at the
very foundation of the analysis of short-run production, playing THE critical role in the
explanation of the law of supply and the upward-sloping supply curve using the law of
diminishing marginal returns. Of the myriad of short-run production-related terms
(including total product, average product, fixed input, variable input,short run, long run)
marginal product is by far the most important.
The formula for specifying and calculating marginal product from total product is given as:
change in total product
marginal product

=
change in variable input

The proper economic interpretation of marginal product is as the contribution of the last unit of
variable input to total production. That is, how much does total product change by adding the
last unit? If, for example, the marginal product of labor is 25 tacos, then this means that
employing the last worker causes total product to increase by 25 tacos. Does this mean the last
worker personally produces 25 tacos? No, not at all. Or at least, not necessarily. It means that
having this person employed by the firm causes total product to increase by 25
tacos. Moreoften that not, this added worker makes existing workers more productive.

Total Product
Total product (also known as total physical product) is defined as the the total quantity of
output produced by a firm for a given quantity of input necessities. Total product identifies the
specific outputs which are possible using variable levels of counts. An understanding of total
product is essential to the short-run analysis of a firm's production.Changes in total product are
taken into account closely when there are changes in variable costs (labor) of production.
Average Product
Average Product is defined as the product produced per unit
of variable input employed when fixed inputs are held constant.
It is commonly thought of as the amount of product produced
by every worker.

(Total Product)/(Variable Inputs Employed

Graph of Average and Marginal Output
)=Average Product
Marginal Product
'Marginal Product is similar to average product but is looked at from another perspective.
Discrete marginal product is defined as the change in total product that comes as a result of a
one unit increase in the variable input/capital level of a firm. Continuous marginal product is
calculated as the derivative of total product with respect to the variable input employed. This
can be represented as: jigdeb
(dTP)/(dVI)=MP
where TP is total product, MP is marginal product and VI is variable inputs. The analysis of
marginal product is foundational to explaining the law of supply (upward-sloping supply curve)
via the Law of Diminishing Marginal Returns.

Three Stages of Production in Economics

Economists recognize three distinct stages of production, which are defined by a concept
known as the law of diminishing marginal returns. This law holds that as you add more workers
to the production process, output will increase -- but the size of that increase will get smaller
with each worker you add. At some point, if you keep adding workers, your output may even
start shrinking. The idea of the three stages of production helps companies set production
schedules and make staffing decisions.
1. Product Curves
o

There are three main product curves in economic production: the total product
curve, the average product curve and the marginal product curve. The total
product curve is a reflection of the firms overall production and is the basis of the
two other curves. The average product curve is the quantity of the total output
produced per unit of a "variable input," such as hours of labor. The marginal
product curve is slightly different: It measures the change in product output per
unit of variable input. For example, if the average curve depicts the number of
units produced based on an overall number of employees, the marginal curve
would show the number of additional units produced if one more employee is
added.

Stage One
o

Stage one is the period of most growth in a company's production. In this period,
each additional variable input will produce more products. This signifies an
increasing marginal return; the investment on the variable input outweighs the
cost of producing an additional product at an increasing rate. As an example, if
one employee produces five cans by himself, two employees may produce 15 cans
between the two of them. All three curves are increasing and positive in this
stage.

Stage Two
o

Stage two is the period where marginal returns start to decrease. Each additional
variable input will still produce additional units but at a decreasing rate. This is
because of the law of diminishing returns: Output steadily decreases on each
additional unit of variable input, holding all other inputs fixed. For example, if a
previous employee added nine more cans to production, the next employee may
only add eight more cans to production. The total product curve is still rising in
this stage, while the average and marginal curves both start to drop.

Stage Three
o

In stage three, marginal returns start to become negative. Adding more variable
inputs becomes counterproductive; an additional source of labor will lessen overall
production. For example, hiring an additional employee to produce cans will
actually result in fewer cans produced overall. This may be due to factors such as
labor capacity and efficiency limitations. In this stage, the total product curve
starts to trend down, the average product curve continues its descent and the
marginal curve becomes negative.