Production Theory

Question 1

introductory concepts

Answer 1

the organisation of resources is directed largely by firms

the objective of the firm is to maximise profit

Question 2

the role of technology in production

Answer 2

in economics, changes in technology refers to any input or process that allows more output to be produced for a given level of inputs

includes improvements in human capital, as well as physical capital

Question 3

production

Answer 3

the production function is the relation between output (Q) and the inputs necessary for production of that output

factors of production

• land
• labour (L)
• capital (K)

Question 4

short run

Answer 4

run the period of time during which at least one factor of production remains fixed
- usually assume L is variable in the short run, while K is fixed

Question 5

long run

Answer 5

the period of time during which all factors of production can be changed

Question 6

the short-run production function

Answer 6

short run Q = f(L)

• this is the function for total product (TP)
• an important assumption when we work with the short-run production function, or TP function, is that workers are homogeneous

Question 7

the law of diminishing returns

Answer 7

at first we experience increasing returns to labour

eventually, this initial “honeymoon period” ends, and although additional workers continue to add positively to TP, they no longer add more than the previous worker did, they add less

if we keep adding more and more workers, we will eventually reach a point where there is no more room to move and production actually falls

Question 8

total production, average product and marginal product functions

Answer 8

the average product of labour is simply the average of the marginal products of labour

as long as MPL is greater than average, the average increases

when MPL is less than average, it drags the average down

hence MPL will cut APL at its maximum

Question 9

why is diminishing returns a ‘law’

Answer 9

as long as one of the factors of production is fixed, output must eventually increase by smaller and smaller amounts when added to the fixed factor

the law of diminishing returns is a short-run phenomenon

Question 10

in the long run, there are no fixed inputs

Answer 10

the fact that all factors of production are variable in the long run introduces a set of concepts and phenomena that is only relevant in the long run

• returns to scale
• constant returns to scale
• increasing returns to scale
• decreasing returns to scale