• Chapter 19 Technology

• Key Concept: Production function

• On production functions, we could define

some concepts which has close parallels
in consumer theory.
• MP MU
• MRTS MRS

• RTS
• Chapter 19 Technology

• First understand the technology constraint

of a firm.

• Later we will talk about constraints

imposed by consumers and firm’s
competitors, i.e., the demand curve faced
by the firm or the market structure.
• Inputs: labor and capital

• Inputs and outputs measured in flow

units, i.e., how many units of labor per
week, how many units of output per
week, etc.
• Consider the case of one input (x) and
one output (y).

• To describe the tech constraint of a firm,

list all the technologically feasible ways
to produce a given amount of outputs.
• The set of all combinations of inputs and
outputs that comprise a technologically
feasible way to produce is called a
production set.

• A production function measures the

maximum possible output that you can
get from a given amount of input.
• Isoquant is another way to express the
production function.

• It is a set of all possible combinations of

inputs that are just sufficient to produce a
given amount of output.
• Isoquant looks very much like
indifference curve, but you cannot label it
arbitrarily.

• Neither can you do any monotonic

transformation of the label.
• Some useful examples of production
function. Two inputs, x1 and x2.
• Fixed proportion (perfect complement)

• Suppose we are producing holes and the

only way to get a hole is to use one man
and one shovel. Extra shovels aren’t
worth anything and neither are extra men.

• f(x1,x2)=min{x1,x2}
• Perfect substitutes

• Suppose we are producing homework and

the inputs are red pencils and blue
pencils. The amount of homework
produced depends only on the total
number of pencils.

• f(x1,x2)=x1+x2
• Cobb-Douglas f(x1,x2)=A(x1)a(x2)b, cannot
normalize to a+b=1 arbitrarily

• A measures the scale of production: how

much output we would get if we used one
unit of each input.

• a and b measure how the amount of

output responds to changes in the inputs.
• Some often-assumed properties on the
production function

• Monotonicity: if you increase the amount

of at least one input, you produce at least
as much output as before
• Monotonicity holds because of free
disposal, that is, the firm can free dispose
of any extra inputs
• Convexity: if y=f(x1,x2)=f(z1,z2), then
f(tx1+(1-t)z1,tx2+(1-t)z2)y for any t[0,1]

• If you have two ways, (x1,x2) and (z1,z2),

to produce y units of output, the weighted
average will produce at least y units of
output.
• Suppose you could produce 1 unit of
output using a1 units of factor 1 and a2
units of factor 2.

• You have another way to produce 1 unit,

using b1 units of factor 1 and b2 units of
factor 2.
• If you could scale up the output so (100a1,
100a2) and (100b1, 100b2) will both
produce 100 units of output.

• If you have (25a1+75b1, 25a2,+75b2), then

you might produce 100 units by using 25
units of a technology and 75 units of b
technology
• In this kind of technology, where you can
scale the production process up and down
easily and where separate production
processes don’t interfere with each other,
convexity is a natural assumption.
• Some terms often used to describe the
production function.

• Marginal product: operate at (x1,x2),

increase a bit of x1 and hold x2, how much
more y can we get per additional unit of
x1?
• Marginal product of factor 1:
MP1(x1,x2)=∆y/∆x1=(f(x1+ ∆x1,x2)-
f(x1,x2))/∆x1 (it is a rate, just like MU)
• Marginal rate of technical substitution
factor 1 for factor 2: operate at (x1,x2),
increase a bit of x1 and hold y, how much
less x2 can you use?

• Measures the trade-off between two

inputs in production

• MRTS1,2(x1,x2)=∆x2/∆x1=?
• MRTS1,2(x1,x2)=∆x2/∆x1=?

• y=f(x1,x2)

• ∆y=MP1(x1,x2)∆x1+MP2(x1,x2)∆x2=0

• MRTS1,2(x1,x2)=∆x2/∆x1=-MP1(x1,x2)/
MP2(x1,x2) (it is a slope, just like MRS)
• Law of diminishing marginal product:
holding all other inputs fixed, if we
increase one input, the marginal product
of that input becomes smaller and smaller
(diminishing MU)

• Diminishing MRTS: the slope of an

isoquant decreases in absolute value as
we increase x1 (diminishing MRS)
• Short run: at least one factor of
production is fixed
• Ex: A farmer in the SR is stuck with the
amount of land he has.

• Long run: all factors of production can be

varied
• Ex: The farmer can adjust the level of the
land input so as to max his profit.
• Returns to scale: if we use twice as much
of each input, how much output will we
get?
• constant returns to scale (CRS): for all
t>0, f(tx1,tx2)=tf(x1,x2)
• Idea is if we double the inputs, we can
just set two plants and so we can double
the outputs
• Increasing returns to scale (IRS): for all
t>1, f(tx1,tx2)>tf(x1,x2)
• Decreasing returns to scale (DRS): for all
t>1, f(tx1,tx2)<tf(x1,x2)
• MP, MRTS, returns to scale

• labor, land
• CRS, increasing MP labor
• A farmer can grow the crop for the whole
word in a small pot?
• Let us think using Cobb-Douglas.

• f(x1,x2)=A(labor)a(land)b

• a+b=?
• a>?
• b<?
• Chapter 19 Technology

• Key Concept: Production function

• On production functions, we could define

some concepts which has close parallels
in consumer theory.
• MP MU
• MRTS MRS

• RTS