Chapter 5

Production and Returns

. The similarities and differences
between the behavior of consumer and firm
Consumer purchase products with the aim of -1
obtaining utility .The firm purchase the
production factors that enable it to obtain
. products
Consumer has a function that translates his -2
preferences (utility function) and the firm has a
function that expresses the levels of production
Utility can not be measured quantitatively but -3
. production can be measured
Consumer aims to maximize utility but firm -4
 production is defined as a process by which •
inputs are combined ,transformed and
turned into outputs. as we showed in theory of
production interests in examining the firm's ”
business” behavior that aims to create market
, value which , in turn , achieve profit •
: Firm deals with two markets •
the market of production Factors -1 •
and the market of goods and services tries to -2 •
maximize profits
 The Factors of Production •
Factors of production are a set of economic resources •
that are collected and combined together to produce
. goods and services
In general ,the factors of production are classified •
into: Capital , Labor, natural resources and
.Entrepreneurship •
the land : it is meant the natural resources used -1 •
in production . Land has 3
: characteristics •
: constant area- •
no production cost where it is created not by - •
human
heterogeneous : it differs from region to - •
another
•
labor : is the human effort directed to -2 •
production , and it can be body effort or
.mind effort
Capital : it is produced by man to help him -3 •
… , in production : equipments , machinery
it is divided into fixed capital( its value is •
distributed for the life time of business) and
circulating capital (is considered production
expense for one period)
Entepreneurship: it is the human effort-4 •
that combine the physical production factors

•
 The production Function •
With the aim of simplicity we can consider •
that the production is a function to each :
capital , labor and natural resources
There are many ways to present the •
: production function
Mathematically -1 •
Y = f ( L, K, N) •
Where , Y = the total production •
L = the labor •
N = natural resources •
C = the capital •
: Graphs -2
:The production technology can be
Labor – intensive : is the technology that relies
. heavily on human labor instead of capital
Capital – intensive : is a technology that relies
heavily on capital instead of human labor .
*Total Product : is the production that increase by
increasing one or more of production factors , but in
“ decreasing proportion . “similar to total utility
TP

L
 Product labor
: in tables -2 0 0
8.4 1 8.4
31.2 2 22.8
33.6
64.8 3
40.8
105.6 4 44.4
150.0 5 44.4
40.8
194.4 6
33.6
235.2 7 22.8
268.4 8 8.4
9.6-
291.6 9
.31.2-
300.0 10
290.4 11
259.2 12
 The Law of Diminishing Returns
Marginal product :is the additional output that*
can be produced by increasing one more unit of
.specific input , holding the other inputs constant
But after a certain point the marginal product of a
variable input declines . : the product by the first
employee is high and the second is less and so and so
to a point that the last employee has the least
product
MP

L
Example : suppose a farmer who possesses land , •
capital and labor , can use fertilizer from quantity
. zero to positive quantity
So we expect that the first unit of fertilizer has •
large effect on the product . But the later units can
increase the production in less proportion . Finally if
he continues to increase fertilizer the production
. will decrease even it can be destroyed
this is the meaning of the Law of Variable •
. Proportions
The rate of change in total product resulting from •
changes in labor is called :marginal product of
: labor
MPL = dTP/ dL •
: Average product*
is the average amount produced by each unit
. of variable factor of production
Average product = total product /total units of labor
AP = TP / L
Average product follows marginal product . If MP is
. below AP ,the average falls ,otherwise it rises
Example :suppose you have had 6 exams and your
average is 86 , and on the next exam you score
75 ,so your average score will fall but if you score
.95 ..your average will rise
This is illustrated in a table and graphically as
: follows
Marginal product
•
Average product Total product labor

---- 0 0 0
8.4 8.4 8.4 1
22.8 15.6 31.2 2
33.6 21.6 64.8 3
40.8 26.4 105.6 4
44.4 30.0 150.0 5
44.4 32.4 194.4 6
40.8 33.6 235.2 7
33.6 33.6 268.8 8
22.8 32.4 291.6 9
8.4 30.0 300.0 10
9.6- 26.4 290.4 11
31.2- 21.6 259.2 12
56.4- 15.6 202.8 13
85.2- 8.4 117.6 14
output TP

output
average product

marginal product

L1 L2 L3 0
 the concept of revenue •
:total revenue – 1 •
it is the revenue from selling certain product it •
equals the price multiplied by the number of sold
units TR = P.Q
In other word , the amount received by •
producers ( sellers ) must equal the total
: expenditures of the whole consumers
The total revenue increases as the quantity
increases ,but in decreasing proportion , then it
start declining when TR reaches the top
 •
TR quantity Price
0 0 30
250 10 25
400 20 20
450 30 15
400 40 10
250 50 5

Revenue Curve TR
500
400
300
200
100
60
Q
60 50 40 30 20 10
 Average Revenue- 2 •
average revenue is the total revenue divided by the •
number of sold units from which this revenue
.resulted
: The average revenue always equal price •
AR = TR/Q = P .Q/Q = P •
So the relation is negative between average revenue •
. and quantity
Marginal revenue -3 •
it is the change in total revenue resulted from •
: change in sold produced quantity by one unit
MR= TR / Q •
MR increase as long as TR increases , when TR •
reaches the top MR start declining
 5 4 3 2 1
MR AR TR Q P

MR= dtr/ d Q AR=TR/Q TR=P.Q

0 0 0 30
25 25 250 10 25
15 20 400 20 20
5 15 450 30 15
5- 10 400 40 10
15- 5 250 50 5
:Graphically •
TR 500 •
400 •
300 •
200 •
100 •
0 •
60 50 40 30 20 10 •

P&MR 35 •
30 •
D= AR=P 25 •
20 •
15 •
10 •
5 •
0 •
60 50 40 30 20 10
5- •
MR 10- •
15- •