Production Function

Production is a process that business uses to convert inputs into outputs. Production involves a series of activities that
convert the inputs into outputs that people can use for the fulfillment of their needs. Production is basically the
transformation of inputs into output. Input is anything that is utilized in the creation of a commodity and Output is
something that gets produced at the end of the production process. The relationship between inputs and outputs is
defined using Production Function.
Factors of Production
A. Land: It refers to all natural resources. All natural resources either on the surface of the earth or below the surface
of the earth or above the surface of the earth is Land. One uses the land to produces goods. It is the primary and
natural factor of production. All gifts of nature such as rivers, oceans, land, climate, mountains, mines, forests etc.
are land.
Characteristics of Land as a Factor of Production
1. The land is a free gift of nature.
2. The land has no cost of production.
3. It is immobile.
4. The land is fixed and limited in supply.
B. Labor: All human effort that assists in production is labour. This effort can be mental or physical. It is a human
factor of production. It is the worker who applies their efforts, abilities, and skills to produce.
Characteristic
1. It is a human factor.
2. One cannot store labour.
3. No two types of labour are the same.
C. Capital: Capital refers to all manmade resources used in the production process. It is a produced factor of
production. It includes factories, machinery, tools, equipment, raw materials, wealth etc.
Characteristics
1. Capital is a manmade factor of production.
2. It is mobile.
3. It is a passive factor of production.
D. Entrepreneur: An entrepreneur is a person who brings other factors of production in one place. He uses them for
the production process. He decides: What to produce, Where to produce & How to produce.
Characteristics
1. He has imagination & has great administrative power.
2. An entrepreneur must be a man of action.
3. An entrepreneur must have the ability to organize.
4. He should be a knowledgeable person & must have a professional approach.
Production Function: Production Function is the relationship between physical inputs (land, labour, capital, etc.) &
physical outputs (quantity produced). It is a technical relationship (not an economic relationship) that studies material
inputs & material outputs. Material inputs include variable and fixed factors of production.
In the words of Watson, “Production Function is the relationship between a firm‟s production (output) and the
material factors of production (input).”
Features of Production Function
1. Complementary: A producer will have to combine the inputs to produce outputs. Outputs can not get generated
without the use of inputs.
2. Specificity: For any given output, the combination of inputs that may be used is clearly defined. What type of
factors is needed for the production of a particular product is clearly mentioned before the actual production gets
started.
3. Production Period: The period of the production process is clearly explained to the production unit. Each stage of
making is given some specific time. Production usually gets completed over a long period of time.
Assumptions of Production Function:
 Both inputs and outputs are divisible.
 There are only two factors of production, i.e., land (Variable element) and capital (Fixed element).
 Factors of production are imperfect substitutes.
 Technology is constant.
Types of Production Function
1. Short Run Production Function: Short Run is a period of time where output can only be changed by changing the
level of variable inputs. In the short run, some factors are variable and some are fixed. Fixed factors remain constant
in the short run like land, capital, plant, machinery, etc. Therefore, the situation where the output is increased by
only increasing the variable factors of input and keeping the fixed factors constant is termed as Short Run
Production Function. This relationship is „Law of Variable Proportions.‟
2. Long Run Production Function: Long Run is a span of time where the output can be increased by increasing all
the factors of production whether it is fixed (land, capital, plant, machinery, etc.) or variable (labour). All factors are
said to be variable in the long run. Therefore, the situation where the output is increased by increasing all the inputs
simultaneously and in the same proportion is termed Long Run Production Function. This relationship is explained
by the „Law of Returns to Scale.‟
In the graph, X-axis represents inputs that are being used in the
production process and Y-axis represents outputs that get
produced. Q is the Production Function.
Variable Factors are the factors that can be changed during the
course of the short run. It vary with the level of output. An
increase in variable factors leads to more production and vice-
versa. Variable factors include labour, power, fuel, etc.
Fixed Factors are the factors that can not be changed in the short
run. The number of fixed factors always remains constant even
when is zero production. Fixed factors include land, capital,
building, etc.
 Law of Returns to Scale
In the long run all factors of production are variable. No factor is fixed. Accordingly, the scale of production can be
changed by changing the quantity of all factors of production.
According to Koutsoyiannis: “The term returns to scale refers to the changes in output as all factors change by the
same proportion.”
According to Leibhafsky: “Returns to scale relates to the behaviour of total output as all inputs are varied and is a
long run concept”.
Returns to scale are of the following three types:

1. Increasing Returns to Scale: Increasing returns to scale or diminishing cost refers to a situation when all factors of
production are increased, output increases at a higher rate. It means if all inputs are doubled, output will also
increase at the faster rate than double. Hence, it is said to be increasing returns to scale. This increase is due to many
reasons like division external economies of scale.
2. Diminishing Returns to Scale: Diminishing returns or increasing costs refer to that production situation, where if
all the factors of production are increased in a given proportion, output increases in a smaller proportion. It means,
if inputs are doubled, output will be less than doubled. If 20 percent increase in labour and capital is followed by 10
percent increase in output, then it is an instance of diminishing returns to scale.
3. Constant Returns to Scale: Constant returns to scale or constant cost refers to the production situation in which
output increases exactly in the same proportion in which factors of production are increased. In simple terms, if
factors of production are doubled output will also be doubled. In this case internal and external economies are
exactly equal to internal and external diseconomies. This is known as homogeneous production function. Cobb-
Douglas linear homogenous production function is a good example of this kind.