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Chapter –Three
1. THE THEORY OF PRODUCTION
 Objective of the Chapter
 In this chapter you will learn:
1.1. Production input and production periods
1.2. Production Function
I.2.1. Production function with one Variable input
I.2.2. Production Function with two Variable input
I.3. Economic Region/optimization/ of production/output/
3.1 Production, input and production period
A. production is the process of using the services of inputs to make goods and services
available. But what do we mean by inputs are anything that can be used in the production
of goods and services. This includes labor. Land capital and entrepreneurship.
All inputs can be divided into two categories: fixed input and variable input fixed inputs
are those inputs whose quantity remains fixed for a given period of time. On the other
hand, variable inputs are those inputs whose quantity can be increased or decreased
during a given period of time. For example, a farmer requires land surface, water, capital
goods, labor etc. labor can be considered as variable input while land and capital goods
are fixed inputs assuming that the size of the plot and the capital goods available for
production remain fixed.
 In economics, production period is classified as short run or long run. Short run refers
to a period of time in which the quantity of at least one input remains fixed. On the
other hand, the term long run refers to period of time greater than a year or 5 year.
They short or long run rather refer to the nature of economic adjustment in the firm to
changing economic environment.
 Onece we define the most important concepts as output, input and production periods,
and classified inputs as fixed and variable inputs, we can now see the relationship
between various combinations of inputs and the maximum output a firm can produce.
This relationship is depicted by a concept known as production function.
3.2 Production Function
Production function shows the relationship between various combinations of inputs
and the maximum outputs obtainable from those combinations. It represents the

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maximum output that can be produced from given combination of inputs. It describes
technological relationship between input and output.
Mathematically, it can be represented as
Q = f(X1,X2,X3…..,Xn)
- Where, Q represents the maximum quantity of output
X1,X2,X3………., Xn are different types of inputs
If the quantity of at least one input remains fixed, the above mentioned production is
called short run production function but if all of the inputs are variable, the production is
called long run production function. In this chapter, we will give not run production
function.
3.2.1 Production Function with one Variable input
Consider that a farmer wants to produce maize on 2 hectar of land. To produce maize,
he needs land, fertilizer, water, some equipment and labor. Assume that all of the inputs
except labor are fixed at certain quantity. Given this, the farmer can increase maize
production indefinitely since he is combining increasing unit of labor with fixed inputs-
land and capital. Eventually, total out put will decline.
Short Run Production
Fixed input Variable input Total product Average Marginal Stage of
Land (in No. of oxen labor (in (TP)(in product(AP) Product (MP) Production
hectare) worker-day quintal) T.P MP = ΔTP
AP =V.I.L
ΔQ

2 2 0 0
2 2 1 4 4 4
2 2 2 9 4.5 5 STAGE I
2 2 3 15 5 6
2 2 4 20 5 5
2 2 5 24 4.8 4
2 2 6 27 4.5 3 STAGE II
2 2 7 28 4 1
2 2 8 28 3.5 0
2 2 9 27 3 -1 STAGE III
2 2 10 25 2.5 -2

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Graphically
Outputs (in quintals)

28 Stage I Stage II c Stage III

24
20 TP
16
12
8
4
Labour (in worker –day)
1 2 3 4 5 6 7 8 9 10

6
5 APL
4
3
2
1
0 labor
-1

-2
Fig. 5.1 Total Utility, Marginal product & Average product Curves

I. Total product: As the farmer employs more and more labor, total
product first increases, reaches its maximum (when 8 unit of labor is
employed, total product =28) and then declines. When the amount of
labor increases, total product first increases by an increasing amount (up
to point ‘a’), and then increases by decreasing amount (between point ‘a’
and ‘c’); after point ‘c’ it declines. Since total product of maize depends on
the unit of labor employed, the total product is also known as total
product of labor.

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2. Average product (AP): is the total product per unit of the variable input.

AP=TP/L
As the amount of labor increases and combined with the fixed inputs (land,
oxen….) average product of labor initially increases, reaches its maximum
(AP=5 when L=4) and then declines.
3. Marginal product: is a measure of change in total product resulting from
one unit change in the amount of the variable input assuming the other inputs
remain fixed. Mathematically, it can be stated as

MP= TP/ L

In our example, it measures the contribution of each additional unit of labor

employed to the total product. Like average product, marginal product initially
increases, reaches its maximum (in our example, at the third labor, MP=6), and
then declines as the quantity of variable input, increases.
Relationship Between Average product and Marginal Product
Note the following points by referring to the above graph
i. The patterns of average product and marginal product curves are similar.
As the amount of the variable inputs increases, both average product
and marginal product curves rise, reach their respective maximum and
then decline.
ii. Whenever marginal product of the variable input is greater than the
average product, the average product increases {whenever MP>APAP
increases}.
iii. Whenever marginal product of the variable input is less than the average
product, the average product decreases [whenever MP<APAP
decreases].
iv. Finally, when the marginal product equals average product, average
product reaches its maximum.
v. When total product is maximum, marginal product is zero.

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The Law of Diminishing Marginal Returns (LDMR)

The law states that as increasing amount of a variable input is combined
with fixed inputs, eventually the contribution of each additional amount of
the variable input to the total product [MP] declines. This is due to the fact
that the amount of fixed input per variable input declines. In our case, as
the amount of labor used in production process increases, the amount of
capital per worker decrease. Note that the law starts to operate after the
marginal product curve reaches its maximum.
Stages of production
The short run production function can generally be classified into three
stages of production, as shown in table
Stage I: From the origin up to the point where AP is maximum. Note that
MP = AP when AP
is maximum.
Stage II: From AP = MP up to MP is zero. Note that Mp is zero when TP is
maximum.
Stage III: whenever MP is negative.
From this one can understand that a producer should not produce in stage I
and III.
In stage III, each additional unit of labor is contributing negatively to total
product, i.e. MP is negative because the amount o the variable input, in our
example, labor, is excessive compared to the quantity of the fixed input. In
other words, there is over employment of the variable input, labor. As a result,
the fixed inputs are over utilized. This stage is also known as extensive margin.
3.2.2. Production Function with Two variable input
Up to now we have been assuming that there is only one variable input, labor.
But, in reality, there are many variable inputs in production process. Let us
assume that there are two
variable inputs in maize production: labor and capital. Technology is still
constant, i.e., there is not technological advancement in maize production.

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Given the two variable inputs, the farmer can produce the same amount of
maize by using different combinations of labor and capital. A table that
represents the various combinations of labor and capital which gives the
farmer the same level of output is called is quant schedule or equal product
schedule.
Isoquant Schedule
Combination Capital Labor Maximum Maize
(in machine- (in worker- output (in
hour) hour) quintals)
A 1 11 60
B 2 7 60
C 3 4 60
D 4 2 60
E 5 1 60
A graphical representation of the Isoquant schedule is called Iso product curve
or equal product curve or simply Isoquant. In Creek iso means equal or same.
Isoquant, therefore, represents those combinations of two variable inputs
which give the producer equal level of output. In other words, isoquant is a
production function that relates the various combinations of two variable
inputs with a maximum amount of total output, assuming the technology
constant.

5
4
3
2
1 Tp=60 Quintals

2 4 6 8 10 12
Any combination of labor and capital on the Isoquant gives the farmer 60
quintals of maize.
Isoquant Map: is a set of isoquants or equal product curves

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3
2

3 4
The Economic Region of production
From our discussion of production function with one variable input, we observed that
successive use of the variable input, labor eventually reduce the total product. In our example,
when the farmer employs more than 8 units of labor, total product decreases. The same logio
holds true when the farmer uses two variable inputs.

Labour
1 2 3

Any combination of labor and capital on the above isoquant gives the farmer 50
quintals of maize. He can use combination ‘a’ [C 1 and L0 units of capital and
labor respectively] or combination ‘b’ [C 0 and L2 units of capital and labor]. If he
uses more units of capital, say C2, it requires him to employee more units of
labor, L1 to maintain the same level of production. However, this implies higher
cost of production. Therefore, the farmer should not use those combinations
above point ‘a’. The same holds true for those combinations after point ‘b’. the
farmer should use those combinations between point ‘a’ and ‘b’. This range is
known as the economic region of production.

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