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Production Function Refers to the functional relationship between inputs and output.

It shows
the maximum output that can be produced from given inputs.

Q = f( Ld, L, K,E)

Land, Labour, Capital and Entrepreneurship are the four basic factors of production.

Fixed Factors: Land, Capital etc.

Variable Factors: Labour, Raw materials etc.

Types of Production Function :


There are two types of Production Function.
1. Short-run Production Function : In this production function one factor of production
is variable and all others are fixed. So, law of return to a factor is applied. It is also called variable
proportion type of production function.
It is a time period which is not enough to make change in all inputs. In this level of
production can be changed by changing the variable factors.

2. Long-run Production Function : In this production function all the factors of


production are variable. So, law of returns to scale is applied. It is also called constant
proportion type of production function.
It is a time period which is enough to make change in all inputs, all inputs are
variable in the long run. In this level of production can be changed by changing all inputs.

BASIS FOR SHORT-RUN PRODUCTION LONG-RUN PRODUCTION


COMPARION FUNCTION FUNCTION

Meaning Short run production function Long run production function


alludes to the time period, in which connotes the time period, in
at least one factor of production is which all the factors of
fixed. production are variable.
BASIS FOR SHORT-RUN PRODUCTION LONG-RUN PRODUCTION
COMPARION FUNCTION FUNCTION

Law Law of variable proportion Law of returns to scale

Scale of production No change in scale of production. Change in scale of production.

Factor-ratio Changes Does not change.

Entry and Exit There are barriers to entry and the Firms are free to enter and exit.
firms can shut down but cannot
fully exit.

Concept of Product

Total product: Total product or Total physical product refers to total quantity of a goods and
services produced by a firm in a given period of time.

Average product: Average production is the per unit production of variable factor.
AP = TP/QVF

Marginal Product: Marginal product refers to the change in total product resulting from the
employment ofan additional unit of variable factor. In other words, it is the contribution of each
additional unit of variable factor to output.

Law of Variable Proportions

It was propounded by Marshall and other classical economists.

How total & marginal product is affected by change in one factor, keeping other factors constant.
“As proportion of one factor in a combination of factors is increased, keeping other factors fixed,
initially marginal & average products will increase then after a point, first marginal and then
average product will diminish”.

Assumptions of the Law

 There are only two factors of production- Labour (L) and Capital (K)
 State of technology is constant
 Capital must be kept fixed
 The proportion among the factors is subject to vary
 Labour is homogenous

 Following table explains the working of law.


 Schedule:


Stage- I, Increasing Return

TP increases at an increasing rate up to point F, after point F, TP increases but at a decreasing


rate. This point is called as point of inflection.

MP initially increases, reaches its maximum corresponding to the point F, then falls but remains
positive throughout the stage.

MP>AP, When AP is maximum, MP=AP

Stage-I ends where MP cuts the maximum point of AP.

Reasons-

a) Indivisibility of fixed factor


b) Specialisation or Division of labour

Stage-II, Diminishing Return

TP increases at a diminishing rate until it reaches its maximum.

Both AP and MP continuously decreases.

AP > MP When MP=0, TP is maximum

Stage-II ends when TP reaches its maximum point H.

Reasons-

a) Scarcity of the fixed factor

b) Indivisibility of the fixed factor

c) Imperfect substitutability of the factors

Stage-III, Negative Return

AP falls but remains positive

AP> MP When TP begins to decline, MP becomes negative.

Reasons-

Imperfect substitutability between K and L

Mismanagement or lack of supervision

Excessiveness of variable factor relative to the fixed factor-“ too many cooks spoil the broth”.

Observations –

 In Stage-I capital is presumably under-utilised. Here the labour-capital ratio is very low. –
 And in Stage-III there is a very high labour capital ratio, as a result additional workers not
only prove unproductive but also cause a decline in TP. –
 So a firm operating in Stage-I has to increase labour and that in Stage-III has to decrease
labour.

Relation between Total, Average and Marginal Product


Relation between TP & MP
1. When TP increases at an increasing rate, MP also increases.
2. When TP increases at a diminishing rate, MP declines.
3. When TP is maximum,MP=0.
4. When TP begins to decline, MP becomes negative.

Relation between MP & AP

1. When MP > AP, AP rises.


2. When MP = AP, AP is maximum and constant.
3. When MP < AP, AP falls.
4. MP may be zero or negative, but AP continues to be positive.
5. AP increases, even when MP falls but MP should lie above AP.