Chapter 5: Production in the short run and long run.

 A firm is an institution that hire factors and organizes them to produce and sell goods and services.The firm’s goal is to maximize profit.If its fails to maximize profit it is either eliminated or bought out by other firms.

SHORT RUN

      A period of time over which one or more factors of production remains fixed.Capital is fixed.Other resources used by the firm such as labor can be changed in short run.Total product (TP) which means The total output produced by the firm’s workers.Marginal product (MP) means The addition total product after employing one more unit of factor input.Marginal product of labor= change in total product ÷ change in units of labor.Average product which means The average amount produced by each unit.Average product of labor= total product÷ total units of labor.Law of diminishing returns states that when additional units of a variable input are added to fixed inputs, the marginal product of the variable input declines beyond some point.

The relationship between AVERAGE PRODUCT, MARGINAL PRODUCT AND TOATL PRODUCT.

·     Marginal product is the slope of the total product function. At point A, the slope of the total product is the highest so marginal product is the highest. At point c, total product maximum, the slope of the total product is zero. Marginal product intersects at the horizontal axis. Marginal product is the increase in total product as a result of adding one more unit of input.(textbook definition.) Average product is the total product (or total output) divided by the quantity of inputs used to produce that total. (textbook definition.) Marginal product increases with the amount of workers you have when making a product. For each new worker you add to help make a product the amount of products you can make will increase by a fair amount but as the amount of workers you hire the amount of products will tend to get less and less. Until you come to the point where if you add one more worker the amount of products you can make will get to the point where you won't be able to put any more products out because the amount you produce will eventually be non-existent. Marginal product will eventually start to experience diminishing returns where the amount of products you will be able to produce will eventually go down so far that you won't be able to put out anymore products. When MP>AP AP will start to increase. When MP<AP AP will start to decrease. Division of labor is when you divide the production process in to a series of specialized tasks, each done by a different worker.(Textbook definition.) The law of diminishing returns is when you keep adding more of a variable input to a fixed input during the production process, the resulting increase in output will at some point begin to diminish. (Textbook definition.)

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      LONG RUN

ü  All factors are variable in long run.Firms can change the amount of machines or office space they use.So, THE LAW OF DIMINISHING RETURNS does not apply for long run.In short run firms have to decide how much to produce in the current scale of plant but in long run firms have to choose among many potential scales of plant.The scale of production:

Economics of scale.

Explain the downsloping part of long run curve.The factors are,Labor specialization.Hiring more workers means jobs can be divided. Greater labor specialization eliminates the loss of time that occurs whenever a worker shift from one task to another.Managerial specialization. A supervisor who can handle 20 workers but in small plant have to spend some of time on outside functions like finance. Greater productivity and efficiency along with lower unit cost will be the result.Diseconomies of scale. Difficulty of efficient controlling and coordinating a firm’s operation as it becomes large scale producers.One person can assemble or digest information in large scales must be delegated to many vice presidents.Constant return to scale ATC is constant. Long run average cost does not change.

Economies of scale, diseconomies of scale, and constant returns to scale are all related terms that describe what happens as the scale of production increases. It is important to understand the concepts of these returns to scale because they can be an important factor in determining the optimal and equilibrium size of firms. From that decision, the structure of industries and their prices and output levels can also be determined appropriately. Therefore, these factors provide major implications for public policy. Particularly, in case where they lead to the development of natural monopolies, these companies can claim themselves to be prevented from government attempts to break them up.

Economies of scale

This term characterizes a production process in which an increase in the number of units produced causes a decrease in the average cost of each unit. It is also called as increasing returns to scale as it refers to the situation in which the cost of producing an additional unit of output, which is the marginal cost of a product decreases as the volume of its production increases. It could also be defined as the situation in which an equal percentage increase in all inputs results in a greater percentage increase in output.
An example of an economy of scale would be the production of any established manufacutred good would decrease with the increase in quantity produced due to the cheaper procurement of the materials needed for production.

Constant returns to scale

It refers to a technical property of production that examines changes in output subsequent a proportional change in all inputs (where all inputs increase by a constant). If output increases by that same proportional change then there are constant returns to scale (CRTS), sometimes referred to simply as returns to scale.

Diseconomies of scale

A term used to describe processes that do not conform to the definition of economies of scale due to the costs for production does not decrease with the increased production. This can happen for several reasons. First this can happen due to the prodcution rates for the creation of parts for a product may take a set amount of time therefore increasing production would still be dependent on that part for completetion. The other reason diseconomies of scale can occur is from the increased shipping costs due to distance or weight.
A good example of diseconomies of scale would be the phamacutical industry due to their high research and development costs of producing a new drug.