PRODUCTION ANALYSIS
Dr. Asha [Link]
Assistant Professor & Head
Department of Commerce (Aided)
St. Paul’s College, Kalamassery
INTRODUCTION
• Production is the transformation of
resources into commodities over time and
space.
• Inputs are transformed into output for
satisfying human wants.
PRODUCTION FUNCTION
• Functional relationship under the given technology between
physical rates of input and output of a firm per unit of time.
• Q= f(L, La, C, M,T)
Where Q = Output
L=Land
La=Labour
C= Capital
M=Management
T=Technology
ASSUMPTIONS
• Reference to a particular time period
• State of Technology does not change
USES OF PRODUCTION FUNCTION
• To compute least cost input combination
• To find out maximum input out put Combination
• To decide on the value of employing a variable
input factor
• To help in long-run decision making
CHARACTERISTICS OF PRODUCTION
FUNCTION
• Maximum quantity of output from a given input
• How input can be turned into an output
• Efficiency of Technology
• Intensity of particular technology
• Economies of scale
• How one input is substituted by another.
COBB-DOUGLAS PRODUCTION
FUNCTION
• The Cobb-Douglas production function, named after Paul H. Douglas and
C.W. Cobb, is a famous statistical production function.
• The Cobb-Douglas production function is as follows:
• Q= KLª[C^(l-a)]
• Here Q is output, L is labor quantity, C is capital quantity, l and a are positive
constants.
• This study led to the conclusion that labour contributes about 3/4th and
capital about 1/4th of the increase in manufacturing production.
• K is the constant –state of technology
• a= positive fraction expressing the proportion between inputs.
CONCEPTS RELATING TO LAWS OF
PRODUCTION
• Total Product or Total Physical Product (physical output
corresponding to each set of inputs)
• Average Product = TP/No. of variable factors employed
• Marginal Product (addition to the total product
• Variable Proportion (quantity of a single input is varied
• Fixed Proportion (Quantities of all inputs are varied in same
proportion.
LAWS OF PRODUCTION
• Law of Diminishing Returns or Law of
Variable Proportion
• Law of Returns to Scale
LAW OF DIMINISHING RETURN OR LAW OF
VARIABLE PROPORTION (SHORT-RUN
PRODUCTION FUNCTION)
• The law of diminishing marginal returns is a theory in
economics that predicts that after some optimal level of
capacity is reached, adding an additional factor of production
will actually result in smaller increases in output.
• For example, a factory employs workers to manufacture its
products, and, at some point, the company operates at an
optimal level.
• With all other production factors constant, adding additional
workers beyond this optimal level will result in less efficient
operations.
REASONS FOR THE OPERATION OF THE
LAW
• Wrong combination of input
• Scarcity of certain factors
• Imperfect substitutes
LAW OF RETURNS TO SCALE (LONG -
RUN PRODUCTION FUNCTION)
1. Increasing Returns to Scale
2. Constant Returns to Scale
3. Diminishing Return to Scale
INCREASING RETURNS TO SCALE
• Increasing returns to scale simply means
that the output that is produced by a firm
will increase by a larger amount than the
number of inputs that were increased —
inputs being labor and capital, for example.
EXAMPLE
• You are a restaurant owner that only makes burgers.
• Currently, you employ 10 workers, have 2 grills, and the
restaurant produces 200 burgers a month.
• Next month, you employ a total of 20 workers, have a
total of 4 grills, and the restaurant now produces 600
burgers a month.
• Your inputs exactly doubled from the previous month, but
your output has more than doubled! This is increasing
returns to scale.
CONSTANT RETURNS TO SCALE
• Constant returns to scale occur when an input
increase, such as labor and capital, proportionally
increases output.
DECREASING/DIMINISHING RETURNS TO
SCALE
• It means that the increase in input corresponding
to the output leads to a decrease in output as
expected during the production process.
• For instance, if a factory increased the input by
60% concerning the output during the production
process, but the output was only 33%, then the
firm is said to go through decreasing scale returns
ECONOMIES OF SCALE
• Benefits of large-scale operation
• Internal Economies & External Economies
• Internal economies are associated with the size of the
business
• External economies refer to the benefits common to all
firms located in a particular area.
ECONOMIES OF SCALE
Internal External
• Technical Economies (Modern machines) • Improvement in transportation and
• Labour Economies (larger employees) Communication facilities
• Managerial Economies (Qualified Personnel) • Power supply
• Marketing and Advertisement Related
• Commercial Economies ( Purchase and Sales)
• Financial Economies (e.g. liberal credit • Training
facilities)
DISECONOMIES OF SCALE
• The loss due to the increase in the scale of
operation
• Reasons: Overcrowding, transportation facilities,
economic conditions etc.
PRODUCER’S EQUILIBRIUM (LEAST COST
COMBINATION)
• A producer is confronted with innumerable combinations
of inputs for producing a given quantity of output.
• Least cost input combination.
ISOQUANTS
• It is a contour line drawn through the set of points at
which the same quantity of output is produced while
changing the quantities of two or more inputs.
• It shows all possible combinations of two inputs,
capital and labour, which can produce a particular
quantity of output.
• Cost of different input combinations are different.
ISOQUANT CURVE
RECAP
• What is Production?
• What is Production Function?
• Why are laws of production different in
short-run and long-run?
• What are economies of scale?
• What are isoquants?
• What do you mean by optimum
combination of inputs?