CHAPTER 6 :

THEORY OF PRODUCTION

Definition of production : Production mean the process of using the services of labour and machine along with natural resources and raw materials (factors of production) to produce goods and services. In other means, we can say that production is the process of transforming input to output. Input processing Output

Factor of production (input) refer to those goods and services which assist the production process like natural resources, labour, capital and interpreneur. Output give a mean what we get after finish process in production or refer to finished goods.

Classification of factor of production: In microeconomics, input for the production divided into four factors of production: 1. Land Land means to all natural resources or gift s of nature which are available for free such as land surface, air, lake, water, minerals, forest, seas, mountains, and others. In other word, land includes all natural resources that are not made by human. Land is most important source in starting point to make a production . For example, in food industry land is important to build factory or plants in order to start the production. Further natural resource such water is used in mixing process and flour is used to make bread as well as other materials in processing to make a final product.

2. Labour Labour refers to all activities, physical or mental, which are undertaken by man in exchange for a monetary reward. Labour one more important factor in play role in production, because natural resources of a country cannot be utilized if the absence of labour. Example of labours are teacher, doctor, lawyer, prime minister, designers, and managers used their mental talents in production process. Meanwhile, farmer, factory

workers, construction workers, clerks, farmer will use their physical strength in production . Their services will count in hours they working.

3. Capital Capital refer that part of man-made wealth, which is used in further producing wealth. Factories, building, tools, machinery, lorry example of capital. Money also can consider as capital if contributed and employed in business or production. However, if that money used as investment in stock market, its not considered as capital because its not involve in production of out output. If dont have capital, production cannot processed although have land and labour. In other word, capital is what all whealth used to produce more good and services. For example of capital is machine operation production used to process bread. However, have different between capital goods and consumer goods. Consumer products refer to finished good, used customer. For example, in the production of bread, machine production is capital and bread is a consumer good.

4. Entrepreneur Entrepreneur refer to combination of three factors of production; land, labour and capital together, organizing, bearing the risk and uncertainties in production and coordinating their working. An entrepreneur must be a person who have intelligence, ability and capability to take decision, complete knowledge about business, innovation, inspire confidence in others and also updated with latest development in his/her area of business. Entrepreneur most important person in factor of production, because, if dont have entrepreneur, all process and procedures cannot running.

Production Function Production of goods and services involves transforming resources such as labor power, raw materials, and the services provided by facilities and machines (input) into finished products. Semiconductor producers, for example, combine the labor services provided by their employees and the capital services provided by fabs, robots, and processing equipment with raw materials, such as silicon, to produce finished chips. The productive resources, such as labor and capital equipment, that a firm uses to manufacture goods and services are called inputs or factors of production, and the amount of goods and services produced is the firms output. A production function is a statement of the functional relationship between inputs and outputs; where it shows the maximum output that can be produced with given input. Production function can be applied to every good and service produced such as manufacturing goods, agriculture goods and anything else that involve production process. Production function can be represented in the form of a mathematical equal such as: Q = f (L, K) where Q is the quantity of output produced per unit of time, L is the quantity of labor used (in term of hours spent in the production process), and K is the quantity of capital employed (number of machine). This expression tells us that the maximum quantity of output the firm can get depends on the quantities of labor and capital it employs. The more inputs are used in production, the more will be amount of output produced. Every firm can decide to use various combinations of inputs in production function. The output can be produced in many ways. Based on production function, firm can choose to use more capital units and less labour units or beside that. For example in manufacturing sector, the sector can be labour intensive by hiring cheap worker or can be capital intensive with fewer worker.

Time Frame for Production Function Time is an factor for firm adjust their input to transform to output. Have a two types of time frame in running business; 1) short run time 2) long run time

Short time period refer to a time frame where at least one of the input (factor of production) cannot be changed, but the other inputs are variable. The input that cannot be changed in the short time period is called fixed input. Fixed input is an input in which the company does not change according to output. For example, machinery, land, building, tool, equipment and others. Long term period refer to a time frame in which all inputs are variable. At this time, firm has enough time to adjust all their input, because that in the long run time, all fixed inputs do not exist and all the input are variable.

Short-Run Production: One Variable and One Fixed Input In short-run, at least one of input is fixed (capital) and another input are variable. In this production, only two inputs are used in the production; labour and capital. So, when the firm to increase the production, they only can increase the amount of variable input, that is labour. Short run production can calculated as: Q=f(L,K) where Q is the quantity of output, L is the quantity of labor used, and K is the fixed input of capital. Example the shortrun production process is a firm that produces MP3 player. The firm cannot increase the capital such as machine production to increase output in the short run, but the firm can hire more labours in order to increase the output. The firm can also pay extra to the current labour to work overtime to increase the production.

Total Product Total product (TP) is the amount of output produced when a given amount of that