Basic Microeconomics: Lesson VII - Theory of Production PDF

THEORY OF PRODUCTION LESSON VII BA Core Course 1- Basic Microeconomics  Production ❑is a process of combining various inputs to produce an output for consumption. It is the act of creating output in the form of a commodity or a service that contributes to the utili...

THEORY OF PRODUCTION LESSON VII BA Core Course 1- Basic Microeconomics  Production ❑is a process of combining various inputs to produce an output for consumption. It is the act of creating output in the form of a commodity or a service that contributes to the utility of individuals ❑involves the transformation of inputs such as capital, equipment, labor, and land into an output – goods, and services ❑it is a process in which the inputs are converted into outputs  Theory of Production explains the principles in which the business has to decide how much of each commodity it sells and how much it produces and how much of raw material ie., fixed capital and labor it employs and how much it will use. It defines the relationships between the prices of the commodities and productive factors on one hand and the quantities of these commodities and productive factors that are produced on the other hand. Four Types Of Production Decisions: ✓How much output to produce ✓What input combination to use ✓What type of technology to use ✓Whether to produce or to shut down  Production Function The Production function signifies a technical relationship between the physical inputs and physical outputs of the firm, for a given state of the technology. Q = f (a, b, c,...... z) Where a,b,c....z are various inputs such as land, labor, capital, etc. Q is the level of output for a firm.  Production Function If labor (L) and capital (K) is only the input factors, the production function reduces to − Q = f(L, K) Production Function describes the technological relationship between inputs and outputs. It is a tool that analyzes the qualitative input-output relationship and also represents the technology of a firm or the economy as a whole. Relationship Between Total, Average, and Marginal Product: Short-Run Analysis ❑ Total Product (TP) = total quantity of output ❑ Average Product (AP) = total product per total input ❑ Marginal Product (MP) = change in quantity when one additional unit of input used HYPOTHETICAL PRODUCTION SCHEDULE OF PENCILS Input (Labor) Output (Total Product) 0 0 1 8 2 20 3 37 4 57 5 72 6 80 7 85 8 88 9 86 10 82 HYPOTHETICAL PRODUCTION SCHEDULE OF PENCILS Input (Labor) Output (Total Product) Marginal Product 0 0 0 1 8 8 2 20 12 3 37 17 4 57 20 5 72 15 6 80 8 7 85 5 8 88 3 9 86 -2 10 82 -4 HYPOTHETICAL PRODUCTION SCHEDULE OF PENCILS Labor Total Product Marginal Product Average Product 0 0 0 0 1 8 8 8 2 20 12 10 3 37 17 12 4 57 20 14 5 72 15 14 6 80 8 13 7 85 5 12 8 88 3 11 9 86 -2 10 10 82 -4 8  1 0.9 0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0 1 2 3 4 5 6 7 8 9 10 11 #REF! #REF! #REF!  Production Analysis basically is concerned with the analysis in which the resources such as land, labor, and capital are employed to produce a firm’s final product.  Production Analysis To produce these goods the basic inputs are classified into two divisions : Variable Inputs Inputs those change or are variable in the short run or long run are variable inputs. Fixed Inputs Inputs that remain constant in the short term are fixed inputs.  Cost Function ❑the relationship between the cost of the product and the output. C = F [Q] Types of Cost Function ❑Short Run Cost an analysis in which a few factors are constant and won’t change during the period of analysis. The output can be changed ie., increased or decreased in the short run by changing the variable factors. Types of Cost Function ❑Long Run Cost ❑variable and a firm adjusts all its inputs to make sure that its cost of production is as low as possible. Long-run cost = Long run variable cost In the long run ✓firms don’t have the liberty to reach equilibrium between supply and demand by altering the levels of production ✓can only expand or reduce the production capacity as per the profits ✓a firm can choose any amount of fixed costs it wants to make short-run decisions HAVE A GREAT DAY ☺