MAKING PRODUCT DECISIONSEconomics, March 2011

Remember: we are the supplier, making decisions about what to PRODUCE!

Review: what is productivity?

Amount of goods and services produced per unit of input (how efficiently resources are being used in production)

How to calculate productivity?

Step One: calculate total output

Marginal Product:

Change in output generated by adding one more unit of input.

Labor Input Total Product Marginal Product

0 0 0

1 10 10

402 50x3 110

Labor Input increases from 0 to 1, marginal product is 10, because 10

Law of Diminishing Returns

Effect that varying the level of an input has on total and marginal product

As more of one input is added to a fixed supply of other resources, productivity increases UP TO A POINT.

Eventually it will result in a negative marginal product.

3 stages of production can be predicted by Law of DR:

Increasing marginal returns

Diminishing marginal returns

Negative marginal returns

Diminishing Marginal Returns When output begins to increase at

a diminished, or lower, rate Ex: there is not enough machinery

to keep the 12th worker fully employed, thus total production increases, but at a lower rate than with the 11th employee

On a graph it would start to level off

Negative Marginal Returns

Ex: the factory is overcrowded with workers and productivity decreases…

Costs of Production

Any goods and services used to make a product

Fixed Costs:

Store rentWear and tear on machines (repair costs… aging of machine is seen as a fixed cost)

Variable Costs

Change as the level of output changes

Raw materials, wages

Total Costs

At zero output… the total costs are equal to fixed costs

Marginal Costs

Additional costs for producing one more unit of output…

Fixed costs do not change as production level increases

So to determine marginal costs, look at variable

Calculating Marginal CostsLabor Input

Total Product

Marginal Product

Fixed Costs

Variable Costs

Total Costs

Marginal Costs

0 0 0 $3,400

$0 $3,400

-

11 875 200 3,400 2,365 5,765 1.08

12 985 110 3,400 2,580 5,980 1.95

13 1,000 15 3,400 2,795 6,195 XTo increase tennis ball production from 985-1000 a day…•Variable costs increase from $2,580-$2,795•Marginal cost is the additional cost (2795-2580=$215) divided by the number of additional ducks (1,000-985=15)•$215 /15 = $14.33