GOOD AFTERNOON

PRODUCTION ANALYSIS (SR)

 PRODUCTION means CREATING SOME THING. PRODUCTION is the CREATION (or) ADDITION of those ECONOMIC UTILITIES which possess EXCHANGE VALUE. To satisfy human wants, goods and services are needed. They are not freely available. They have to be produced. The type of goods, quality, quantity every thing is decided by the nature of demand. Demand induces the production.

Factors affecting Production

Several factors affect volume of production: Natural Factors. Political Factors. Technical progress. Development of credit and banking. Means of transportation and communication. Peoples nature. Factors of production are: Any thing that contributes to output is called factor of production. Land, Labor, Capital, Organization.

Important Concepts of Production Analysis

Total Product (TP): TP is the total quantity produced by all factor inputs per unit of time. Short run-variable input only, long run-variable + fixed input. Average Product (AP): AP is the total output divided by the number of units of the variable factor or the factor inputs. Marginal Product (MP): MP is the change in total output resulting from change in variable factor Inputs (OR) an addition made to total output because of an change in factor input.

 PF states the technical relationship between the physical inputs and the physical output in the existing state of technology, per unit of time. The output will change when the quantity of any input is changed.technical relationship catalogue of output possibilities. Factors affecting Production Function:

What is a Production Function ? (PF) Production Function:

Quantity of resources used; State of technical knowledge; Possible processes-type of combinations; Size of the firms; Nature of market structure; Relative prices of the factors of production; The manner in which the factors of production are combined. If above factors change, production function will change too.

Nature of PF:
The PF is expressed in the form of a a mathematical equation in which output is the dependent variable and inputs are the independent variable. This relationship is stated as: Q = f (L, N, K, ..n). PF tells us how large an output can be produced with the help of a given quantity of inputs. PF differs from firm to firm. It depends on the technical knowledge and the managerial ability available to firm. PF of a firm changes when firm has access to higher level technical knowledge and managerial ability. The actual PF existing in a firm/industry statistical methods statistical PF Example: Cobb-Douglas PF.

Assumptions of PF:
PF is based on certain assumptions (conditions): Related to specified time period. The state of technological change (knowledge) does not change during the time period. Assumed that the firm will use the best and efficient technique available in production. Factors should be easily divisible into necessary requirement units. There are three types of Production Function in economic theories: PF with one variable input. This is called short run production function. PF with all variable inputs. This is called long run production function. Production Theory with two variable inputs (substitutes). Cobb- Douglas production function is such example of two variable inputs.

Short Run Production Function:

This is also called as: LAW OF VARIABLE PROPORTIONS (or) LAW OF DIMINISHING MARGINAL RETURNS. It is a PF with one variable input. It shows the technical relationship of outputs with only one variable input. The Law of VARIABLE PROPORTION states that: As more and more of the factor input (labor) is employed, all other input quantities remaining constant, a point will be reached in the end where additional quantities of varying input will yield (produce) diminishing marginal contributions to total product. Symbolically, {Q = f (L), K }

NO. of Labor Units (L) 1 2 3 4 5 6

TP
(Kgs) 20 50 90 120 135 144

AP
(TP/L) 20 25 30 30 27 24

MP
( TPn -TPn-1) 20 30 40 30 15 9 Stage I I I II II II

7
8

147
148

21
15.5

3
1

II
II

9
10

148
145

16.4
14.5

0
-3

II
III

Three stages of production:

The three concepts of production when observed pass through three different stages of production. (Diagram-P8 > labor on x axis and
output on y axis)

First Stage: TP increases at an increasing rate. AP increases. MP increases first and then starts diminishing. Second Stage: TP is increasing at a diminishing rate. AP starts diminishing. MP diminishes. The stage from where the MP of labor starts declining shows the Law of diminishing returns or Law of Variable proportions. Third Stage: TP starts diminishing. AP also diminishes. MP becomes zero. Thereafter it is negative.

 Reasons for different stages to occur: In first stage there are fixed inputs-under utilized capacity- specialization and team work cause AP to increase when additional input (labor) is used. In Second stage specialization-teamwork and proper utilization of the fixed inputs continues. In Third stage - fixed inputs capacity gets exhausted and the additional labor (variable input) causes the output to fall.

Optimum use of the variable Input:

A rational firm has to decide about how much of variable input should be used to maximize profits choose stage extra revenue equals extra cost. Stage one and Stage three should be avoided. Stage one underutilizing fixed capacity- the MP of labor risesprofitable for employing additional labor. Stage three over utilizing its fixed capacity- the MP is negative- not profitable. Stage two is OPTIMUM and should be selected proper utilization of fixed inputs and variable input TP and AP are positive Production only till MR=MC. Stage Two is ideal for Short Run (maximizing the goal)

End Law of variable proportions

PPTs by Dr. Thirumagal Pillai