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Chapter 6
ProductionProduction
Chapter 6 Slide 2
The Technology of Production
The Production ProcessCombining inputs or factors of production to
achieve an output
Categories of Inputs (factors of production)LaborMaterialsCapital
Chapter 6 Slide 3
The Technology of Production
Production Function:
Indicates the highest output that a firm can produce for every specified combination of inputs given the state of technology.
Shows what is technically feasible when the firm operates efficiently.
Chapter 6 Slide 4
The Technology of Production
The production function for two inputs:
Q = F(K,L)
Q = Output, K = Capital, L = Labor
For a given technology
Chapter 6 Slide 5
Production Function for Food
1 20 40 55 65 75
2 40 60 75 85 90
3 55 75 90 100 105
4 65 85 100 110 115
5 75 90 105 115 120
Capital Input 1 2 3 4 5
Labor Input
Chapter 6 Slide 6
Isoquants
Isoquants
Curves showing all possible combinations of inputs that yield the same output
Chapter 6 Slide 7
Production with Two Variable Inputs (L,K)
Labor per year
1
2
3
4
1 2 3 4 5
5
Q1 = 55
The isoquants are derivedfrom the production
function for output ofof 55, 75, and 90.A
D
B
Q2 = 75
Q3 = 90
C
ECapitalper year The Isoquant MapThe Isoquant Map
Chapter 6 Slide 8
Isoquants
Short-run:Period of time in which quantities of one or
more production factors cannot be changed.
These inputs are called fixed inputs.
The Short Run versus the Long RunThe Short Run versus the Long Run
Chapter 6 Slide 9
Isoquants
Long-runAmount of time needed to make all
production inputs variable.
The Short Run versus the Long RunThe Short Run versus the Long Run
Chapter 6 Slide 10
Amount Amount Total Average Marginalof Labor (L) of Capital (K) Output (Q) Product Product
Production withOne Variable Input (Labor)
0 10 0 --- ---
1 10 10 10 10
2 10 30 15 20
3 10 60 20 30
4 10 80 20 20
5 10 95 19 15
6 10 108 18 13
7 10 112 16 4
8 10 112 14 0
9 10 108 12 -4
10 10 100 10 -8
Chapter 6 Slide 11
Total Product
A: slope of tangent = MP (20)B: slope of OB = AP (20)C: slope of OC= MP & AP
Labor per Month
Outputper
Month
60
112
0 2 3 4 5 6 7 8 9 101
A
B
C
D
Production withOne Variable Input (Labor)
Chapter 6 Slide 12
Average Product
Production withOne Variable Input (Labor)
8
10
20
Output
per Month
0 2 3 4 5 6 7 9 101 Labor per Month
30
E
Marginal Product
Observations:Left of E: MP > AP & AP is increasingRight of E: MP < AP & AP is decreasingE: MP = AP & AP is at its maximum
Production withOne Variable Input (Labor)
Laborper Month
Outputper
Month
60
112
0 2 3 4 5 6 7 8 9 101
A
B
C
D
8
10
20E
0 2 3 4 5 6 7 9 101
30
Outputper
Month
Laborper Month
AP = slope of line from origin to a point on TP, lines b, & c.MP = slope of a tangent to any point on the TP line, lines a & c.
Chapter 6 Slide 14
As the use of an input increases in equal increments, a point will be reached at which the resulting additions to output decreases (i.e. MP declines).
Production withOne Variable Input (Labor)
The Law of Diminishing Marginal ReturnsThe Law of Diminishing Marginal Returns
Chapter 6 Slide 15
When the labor input is small, MP increases due to specialization.
When the labor input is large, MP decreases due to inefficiencies.
The Law of Diminishing Marginal ReturnsThe Law of Diminishing Marginal Returns
Production withOne Variable Input (Labor)
Chapter 6 Slide 16
Can be used for long-run decisions to evaluate the trade-offs of different plant configurations
Assumes the quality of the variable input is constant
The Law of Diminishing Marginal ReturnsThe Law of Diminishing Marginal Returns
Production withOne Variable Input (Labor)
Chapter 6 Slide 17
Explains a declining MP, not necessarily a negative one
Assumes a constant technology
The Law of Diminishing Marginal ReturnsThe Law of Diminishing Marginal Returns
Production withOne Variable Input (Labor)
Chapter 6 Slide 18
The Effect ofTechnological Improvement
Labor pertime period
Outputper time
period
50
100
0 2 3 4 5 6 7 8 9 101
A
O1
C
O3
O2
B
Labor productivitycan increase if there are improvements in
technology, even thoughany given production
process exhibitsdiminishing returns to
labor.
Chapter 6 Slide 19
Production withTwo Variable Inputs
Long-run production K& L are variable.
Isoquants analyze and compare the different combinations of K & L and output
Chapter 6 Slide 20
The Shape of Isoquants
Labor per year
1
2
3
4
1 2 3 4 5
5
In the long run both labor and capital are
variable and bothexperience diminishing
returns.
Q1 = 55
Q2 = 75
Q3 = 90
Capitalper year
A
D
B C
E
Chapter 6 Slide 21
Substituting Among InputsThe slope of each isoquant gives the trade-
off between two inputs while keeping output constant.
Production withTwo Variable Inputs
Chapter 6 Slide 22
Substituting Among InputsThe marginal rate of technical substitution
equals:
inputlabor in angecapital/Chin Change - MRTS
) of level fixed a(for QLK MRTS
Production withTwo Variable Inputs
Chapter 6 Slide 23
Marginal Rate ofTechnical Substitution
Labor per month
1
2
3
4
1 2 3 4 5
5Capital per year
Isoquants are downwardsloping and convex
like indifferencecurves.
1
1
1
1
2
1
2/3
1/3
Q1 =55
Q2 =75
Q3 =90
Chapter 6 Slide 24
The change in output from a change in labor equals:
L))((MP L
Production withTwo Variable Inputs
Chapter 6 Slide 25
The change in output from a change in capital equals:
Production withTwo Variable Inputs
K))((MP K
Chapter 6 Slide 26
If output is constant and labor is increased, then:
0 K))((MP L))((MP KL MRTS L)K/(- ))/(MP(MP KL
Production withTwo Variable Inputs
Chapter 6 Slide 27
Isoquants When Inputs are Perfectly Substitutable
Laborper month
Capitalper
month
Q1 Q2 Q3
A
B
C
Chapter 6 Slide 28
Fixed-ProportionsProduction Function
Labor per month
Capitalper
month
L1
K1Q1
Q2
Q3
A
B
C
Chapter 6 Slide 29
A Production Function for Wheat
Farmers must choose between a capital intensive or labor intensive technique of production.
Chapter 6 Slide 30
Isoquant Describing theProduction of Wheat
Labor(hours per year)
Capital(machinehour per
year)
250 500 760 1000
40
80
120
10090
Output = 13,800 bushels per year
AB
10- K
260 L
Point A is more capital-intensive, and
B is more labor-intensive.
Chapter 6 Slide 31
Returns to Scale
Measuring the relationship between the scale (size) of a firm and output
1) Increasing returns to scale: output more than doubles when all
inputs are doubled Larger output associated with lower cost (autos) One firm is more efficient than many (utilities) The isoquants get closer together
Chapter 6 Slide 32
Returns to Scale
Labor (hours)
Capital(machine
hours)
10
20
30
Increasing Returns:The isoquants move closer together
5 10
2
4
0
A
Chapter 6 Slide 33
Returns to Scale
Measuring the relationship between the scale (size) of a firm and output
2) Constant returns to scale: output doubles when all inputs are doubled
Size does not affect productivityMay have a large number of producers Isoquants are equidistant apart
Chapter 6 Slide 34
Returns to Scale
Labor (hours)
Capital(machine
hours)
Constant Returns:Isoquants are equally spaced
10
20
30
155 10
2
4
0
A
6
Chapter 6 Slide 35
Returns to Scale
Measuring the relationship between the scale (size) of a firm and output
3) Decreasing returns to scale: output less than doubles when all inputs are doubled
Decreasing efficiency with large sizeReduction of entrepreneurial abilities Isoquants become farther apart
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