PRODUCTION

FUNCTIONS
1
 Meaning & Concept of
Production
• Production is the process for transformation of
inputs in to output.
• Profits for a firm depend upon its costs of inputs
used and the revenue derived from the sale of
output.
• The theory of production consists of how the
producer, given the state of technology
combines various inputs to produce a definite
amount of output in an economically efficient
manner.

2
What is production function?
“A production function is a description
of the quantitative relationship
between the inputs absorbed and the
outputs emerging from a particular
production process.

P = f (a, b, c, d, etc)
3
Production Process & Output
Decision
The act of Production involves the
transformation of input in to output.

Production function can be written as =

Q = f (L, K, D)
L = Labour
K = Capital
D = Land
4
Production function states the
maximum quantity of output that
can be produced with any given
quantities of various inputs.

Production function is always wrt

a particular period of time and is
always determined by the state of
technology.
5
 Concept of Product
Total Product is the amount of total output
produced by a given amount of the factor,
other factors held constant

Average product = Total output

No. of units of a factor
employed

6
In brief, production function is a
technical relationship between two
factors of production and their output,
while technology and other factors of
production remain constant.

Joining all the production points,

production process path is derived.

Path 1 is labour intensive, while Path

3 is capital intensive. 7
 Short Run Production
Function
Production can be increased by
increasing the quantities of one
input while keeping the quantities
of other input constant. This
aspect of production function is
known as “Law of Variable
Proportion”.
8
When a producer brings a
change in his production by
changing only one factor of
production, then this proportional
relationship between production
(output) and factors of
Production (input) is referred to
as Law of Returns to a factor.
9
 Long Run Production
Function

In the long run, it is possible

for a firm to change all inputs –
up or down. This is know as
Return to Scale.

10
 Laws Returns
Law of variable Proportions/ Non
Proportional Returns
When more and more units of the variable
factors and used, holding the quantities of
fixed factors constant, a point is reached
beyond which the marginal product, then
the average and finally the total product
will diminish.
11
Law of variable Proportions
When more and more units of the variable
factor and used, holding the quantities of
fixed factor constant, a point s reached
beyond which the marginal product, then
the average and finally the total product
will diminish.

Law of variable proportions is also known

as law of diminishing returns.
12
 Assumptions
a. One factor variable; Rest are fixed
b. All units of variable factor
homogeneous
c. Level of Technology are constant
d. Law holds good in short run and not
in long run

13
 Returns to Scale
Response of output to an increase of
a single input belongs to the concept
of diminishing returns and marginal
products.

What would happen to outputs when

all input (L, K, D) are doubled.
14
Constant Returns to Scale
Where a change in all inputs leads to
a proportional change in output.

Increasing Returns
Where an increase in all inputs leads
to more than proportional increase in
the level of output.
15
 Decreasing Returns to
Scale
When a balanced increase of
all inputs leads to less than
proportionate increase in total
output.

16
Large size of organization creates
difficulties of control.
Diseconomies > Economies.
Types of Economies
1. Internal Economies are those which
are open to a single factory or a single
firm independently of action of other
firms. They result from an increase in
the scale of output of the firm and
cannot be achieved unless output
increases.
17
• Technology Economies (Fuller use of
Plant-2 Machinery)
• Inventory Economies (Large Qty of Raw
Materials- Bulk Purchase of Spare Parts)
• Managerial Economies (Business
Executives of High Skills)
• Financial Economies (Resource Raising)
• Marketing Economies (Advertisement,
Bulk)
• Risk and Survival Economies

18
 Why do returns to scale first increase,
become constant and then diminish?

• In the beginning, when scale of

production is increased, due to
division of labour and specialisation
many type of internal economies are
available. All these economies help in
increasing the returns to scale more
than proportionately.
19
• Constant returns to scales occurs
when a given percentage increase in all
factor inputs causes equal percentage
increase in output. In this situation,
internal economies (and diseconomies)
are counter balanced.
• Diminishing Returns to scale occurs
when a given. Percentage increase in
all factor inputs causes proportionately
lesser increase in output.
20
 External Economies are those which are
shared by a number of firms or industries
when the scale of production in any
industry or a group of industry increase.
These Economies are available to all Firm
Economies of Localization (Concentration
of number of firms in an industry)
• Economies of information (Sector specific
Journals)
• Economies of disintegration/
Decentralization
21
 Diseconomies: If a firm grows
beyond its scale of optimum
capacity, additional units would be
produced at a higher cost.
Internal diseconomies
• Inefficient Management
• Technical difficulties
• Production diseconomies
• Marketing diseconomies
• Financial diseconomies
22
 External diseconomies

• Pollution
• Strains on infrastructure
• High Factor Prices

23
 Law of Supply
• Other things remaining the same,
when prices rises, supply extends and
where price falls, supply contracts.
• Elasticity of supply is the ratio of
percentage change in the quantity
supplied over the percentage change
in price.

24
Factors Influencing Elasticity
of Supply
• Nature of Commodity- Perishable vs
Durable.
• Cost of Production
• Expected Price in Future
• Techniques of Production
• Time – Short Run, Long Run
• Nature of Inputs
• Risk Taking Capacity of Entrepreneurs
25
 Factors Determining Supply
• Production Technology, Efficient
Technology reduces cost of Production
• Price of Factors
• Price of other products
• Objectives of the firm
• Number of producers
• Future price expectation
• Taxes and subsidies
Elasticity of Supply = % ∆ in Qty supplies
% ∆ in price 26
Factors determining Elasticity
of Supply
• Changes in Marginal cost of Production.
• Behavious pattern of producers.
• Availability of production facilities for
expending output
• Extent of substitution possible between
one product to another.
• Length of time available for increasing
production
27
• When TP is highest MP reaches
Zero .
• When MP is increasing at
increasing rate AP continues to
increase and declines when MP
increases at a declining rate
• When AP is highest
MP = AP
28
 Stage I Increasing Returns
• Total Product increases at increasing
rate.

State II MP and AP declining

but shie Positive (Diminishing
Returns)

Stage III Negative Returns

29