Production Analysis

1
Production Analysis

• Transformation of input into output.
• Product function
• According to Watson Production function is the
  name of the relation between physical inputs and
  physical output of a firm.
• Yf(L,K,S) where,
• Yyield (production), Llabour, Kcapital,
  Sland
• Fixed vs. Variable factors

2
Indifference Curve Analysis

• The scale of preference does not require that the
  consumer should be in a position to measure in
  quantitative terms the utility from the
  alternative combinations. All that is necessary
  for the consumer is to know which combination
  give him more or less utility.
• Shows various combinations of two commodities
  which yield equal satisfaction to the consumer.
  Basically, it is a diagrammatic presentation of
  indifference schedule and if we take the locus of
  all the combination giving the same level of
  satisfaction we get a curve known as indifference
  curve.
• An indifference curve is also known as
  ISO-Utility Curve. Each indifference curve yields
  a particular level of satisfaction to the
  consumers.
• Marginal Rate of Substitution - The marginal
  rate of substitution of two commodities i.e. X
  for Y is defined as the amount of Y the consumer
  is just willing to give up to get one more unit
  of X and maintain the same the same level of
  satisfaction.

3
Assumptions of Indifference Curve Analysis

• Rationality
• Scale of Preference
• Concept of Ordinal Utility
• Diminishing Marginal rate of Substitution
• Scale of preference independent of the market
  price
• It takes into account combination of 2
  commodities
• Price Line or Budget Line
• Price line shows all those combinations which can
  be bought by the consumer at the given prices.
  Therefore, it is also called the price
  opportunity line or budget line. It shows the
  possible combination of consumers consumption.
  Therefore it is also known as the consumption
  possibility line.

4
Concept of period in production

• Rational producers try to obtain maximum output
  at minimum cost.
• Prof. Marshall introduced the element of time
• Market period or very short period supply
  remains fixed and the demand plays an important
  role.
• Short period fixed and variable factors and
  costs. Law of variable proportions applies.
• Long period change in both fixed and variable
  factors can be made.

5
Concept of TP, AP and MP

• Total Product or Total Physical Product total
  volume of goods and services produced during
  specified period of time, generally, a year.
• TP or TPP SMP or SMPP
• Average Product or Average Physical Product per
  unit production of the variable factor is known
  as average product.
• APTotal Product / No. of units of a variable
  factor TP / L where, L labour
• Marginal Product or Marginal Physical Product
  change in total product due to the application of
  one more or one less unit of variable factor.
• MPn TPn1 - TPn or ?TP / ?L

6
Laws of Variable Proportions or Laws of Returns

• On introducing additional doses of variable
  factors, we may have the following 3 stages
• Increase in product at increasing rates.
  (Increasing return to variable factor)
• Increase in product at constant rates. (Constant
  return to variable factor)
• Increase in product at decreasing rates.
  (Diminishing return to variable factor)
• Prof. Marshall laws or returns, i.e., laws of
  increasing, constant and decreasing returns.

7
Laws of Variable Proportions or Laws of Returns

• Law of variable proportion is related to the
  short period when with the increase in the
  units of a variable factor, MP increases, it is
  increasing returns, if MP remains constant, it is
  constant returns, and if MP decreases, it is the
  stage of diminishing returns.
• Assumptions
• Technology remains unchanged.
• Other inputs remain fixed hence applicable only
  in the short run.
• Assumes that it is possible to change factor
  proportions.

8
Law of increasing returns / increasing returns to
a variable factor

• Marginal and average product shows a tendency to
  rise at increasing rates with input of additional
  doses of variable cost. Such behaviour of a
  product is termed as law of increasing return.
  Inversely from cost point of view, it is termed
  as law of diminishing cost showing that marginal
  cost of production goes on declining.
• According to Marshall an increase of labour and
  capital leads generally to improved organisation,
  which increases the efficiency of the work of the
  labour and capital.
• According to Benham as the production of one
  factor in the combination of factors is increased
  up to a point, the marginal product of the factor
  will increase.

9
Law of increasing returns / increasing returns to
a variable factor

• Causes for the operation of the law
• Indivisibility of factors eg., teacher
• Increase in efficiency
• Fixed factors and fixed costs eg., rent, wages
• Division of labour / specialization
• Economies
• Before the point of optimum combination

10
Law of constant returns / constant returns to a
variable factor

• According to Marshall the stage of constant
  returns comes at that point, where the effects of
  increasing returns and diminishing returns
  balance each other.
• Under constant returns, MP and AP curves become
  one and the same and it becomes constant, i.e.,
  parallel to the x-axis.
• Why does the law operate?
• Optimum utilisation of variable factor
• Ideal factor ratio
• Most ideal utilisation of variable factor

11
Law of diminishing returns / diminishing returns
to a variable factor

• According to Marshall An increase in capital
  and labour applied in the cultivation of land
  causes in general less than proportionate
  increase in the amount of produce raised, unless
  it happens to coincide with the improvement in
  the art of agriculture.
• Keeping the fixed factors constant, when MP
  diminishes with the increase in the quantities of
  a variable factor, it is called law of
  diminishing returns. From cost point of view, it
  is law of increasing cost, because MC increases
  with the increase in variable factor.
• Scope of the Law.

12
Law of diminishing returns / diminishing returns
to a variable factor

• Causes for the operation of the law
• Certain factors become fixed.
• Certain factors become scarce.
• Substitution of all the factors is not available,
  and
• Maximum optimum level of production has already
  been achieved.

13
Law of returns to scale

• The relationship between quantities of output and
  the scales of production in the long run, when
  all the inputs are increased in the same
  proportion, is called law of returns to scale.
• Increasing return to scale obtaining output at
  higher percentage than the percentage increase in
  the input by increasing the scale of production.
• Constant return to scale
• Decreasing return to scale.
• Causes of the operation of the law When internal
  and external economies exceed the diseconomies,
  the stage of increasing returns to scale
  operates when economies and diseconomies are
  equal to each other, it becomes the stage of
  constant returns to scale and when diseconomies
  exceed the economies, law of diminishing returns
  to scale is said to operate.

14
Differences between returns to a variable factor
and returns to scale

• Period
• Change in factors
• Change in factor ratio
• Change in the scale of production
• Economies of scale
• Internal economies
• Technical managerial
• Labour
• Marketing
• Financial
• External economies
• Centralisation of industries
• Information
• Decentralisation