Page 121 - DECO405_MANAGERIAL_ECONOMICS

Managerial Economics

Notes 7.3 Summary

The law of variable proportion of says that as more and more of the factor input is
employed, all other input quantities remaining constant, a point will eventually be reached
where additional quantities of varying input will yield diminishing marginal contributions
to total product.

Returns to scale are classified as: (a) Increasing Returns to Scale (IRS), (b) Constant Returns
to Scale (CRS) and (c) Decreasing Returns to Scale (DRS).

7.4 Keywords

Fixed inputs: Inputs that cannot be readily changed during the time period under consideration

Inputs: Resources used in the production of goods and services
Long-run: The time period when all inputs become variable
Short-run: The time period during which at least one input is fixed
Variable inputs: Inputs that can be varied easily and on very short notice

7.5 Self Assessment

Fill in the blanks:
1. As we added more and more of variable input to a fixed input, the amount of extra product
will.................
2. Under decreasing return to scale increase in output is ..................... than proportionate to
the increase in input.
3. Increasing return to scale are due to ..................... and/or managerial indivisibilities.
4. Technical indivisibilities cause................ returns to scale.
5. In the long run, output can be .............. by increasing the scale of operations.

6. As per Law of Variable Proportions, when MP is equal to AP, AP is at its…………………….
7. In the third stage of Law of Diminishing Returns, there are …………….marginal returns.
8. A sensible firm would like to operate in the………………stage of production.
9. In ………………stage of production, any additional input employed would lead to a fall in
output.
10. In………………..returns to scale, the proportionate increase in input is not equal to the
proportionate change in output.

7.6 Review Questions

1. Examine the importance of the law of diminishing returns. What do you think to be its
causes and effects?
2. Are diminishing returns to a factor inevitable? Give reasons.

3. Give your comment on second stage of production.
4. Can labour productivity never increase when total production is falling? Discuss.
5. Analyse the day to day situations around you and provide evidence against the hypothesis
of constant returns to scale.

116 LOVELY PROFESSIONAL UNIVERSITY