PRODUCTION

THEORY
PRODUCTION
Resources are transformed into
goods and services that have
considerable value (utility) to
consumers.
 In the production process :

Resources Goods and Services

( inputs ) ( outputs )
Two kinds
of inputs :

1. Fixed input 2. Variable input

- are inputs that - is the one which
do not change as changes as output
output increases. increases.
THE PRODUCTION FUNCTION
AND THE LAW OF DIMINISHING
MARGINAL RETURNS
The production function refers to the
greatest output that can be created
given an exact number of inputs.

Q = f ( land,labor,capital)
Output (Q) is a function of land
resources which also refer to raw
materials;
> Labor, a manpower resources
> Capital which include
equipment,machinery and other
capital goods.
 The law of diminishing marginal returns is an
important principle in production . It states that
as more inputs are added to production while
holding other inputs fixed, the additional output
starts to diminish at a certain point.

Labor ( L ) TP MP AP
( units ) ( units ) ( units ) ( units )

10.0 10 1

9.5 19 9 2

8.7 26 7 3

7.5 30 4 4

6 30 0 5

4.3 26 -4 6

2.7 19 -7 7
 Table 5.2 Summary of Returns to scale

TP MP AP

Phase I increasing diminishing decreasing

Phase II maximum zero decreasing

Phase III diminishing negative

Output, Total product

30

25
20
I II III TP
15
10
5
Input
Labor(L)
1 2 3 4 5 6 7
Output, Marginal Product (MP)
Average Product (AP)

10
8
6

2 AP
0 Input
Labor(L)
-2 1 2 3 4 5 6 7

-4
MP
LONG RUN AND SHORT RUN
ADJUSTMENTS

Short run

It is where a firm
adjust its variable
inputs only

Long run

All inputs are

variable
The Analysis of ISOCOST and
ISOQUANTS

ISOCOST Is the line similar

to the budget line.

Is like the indifference

ISOQUANTS curve , which traces out
the different
combinations of variable
inputs that a firm can use
to produce given amounts
of outputs