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Introduction to Agricultural and Natural Resources. Introduction to Production and Resource Use FREC 150 Dr. Steven E. Hastings . Introduction to Production and Resource Use. This Outline Covers the First part of Chapter 6 in Penson et al. Major Topics Production Decisions

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Introduction to Agricultural and Natural Resources

Introduction to Production and Resource Use

FREC 150

Dr. Steven E. Hastings

Introduction to Production and Resource Use

  • This Outline Covers the First part of Chapter 6 in Penson et al.

  • Major Topics

  • Production Decisions

  • Types of Resources

  • The Production Function – TPP, AVP and MPP

  • Impact of Technology

  • Value Relationships

  • Firm’s Demand for an Input

  • An Application of Eqi-marginal Return

  • Summary

Important Concepts

  • Production Decisions

    • Important Concepts:

      • Production – the process of transforming resources into goods and services (again, soil to corn flakes)

      • Resources - inputs (land, management, capital, etc.)

      • Goods and Services – provide satisfaction to consumers

    • Important Questions:

      • What to produce? How to produce? How much to produce?

  • Types of Resources (Inputs)

    • Many ways to distinguish resources.

      • By type: land, labor, capital and management.

      • Fixed and Variable – this distinction is based on the concept of the producer’s planning horizon, which varies by producer and/or good or service.

      • A “fixed input” can not be changed in the short-run.

      • A “variable input” can be changed in the short run.

      • In the “long-run” all inputs are variable.

  • The Production Function

    • A “model” that represents the “physical” relationship between inputs (fixed and variable) and output.

    • Mathematically – Y=f(X1 / X2, X3…Xn held constant)

    • Verbally – Y is the maximum amount of a good that can be produced with increasing amounts of X1 holding all other inputs, X2, X3…Xn, constant – given a state of technology.

    • Graphically – see Table 6-1 and Figure 6-1

The Production Function

  • Product Curves

    • Total Physical Product (TPP)

    • Average Physical Product (APP) = TPP/X1

    • Marginal Physical Product (MPP) =

      •  TPP /  X1

      • In a “normal shaped” production function, MPP captures the “Law of Diminishing Marginal Productivity” – as additional amounts of a variable input are added to a set of fixed inputs, the MPP will increase, reach a maximum, and then decrease.

      • Mathematically, MPP is the slope (rise over run) of the TPP.

  • Stages of Production (I, II and III) – the APP and MPP allows us to start to “narrow in” on the optimum amount for the producer to produce.

    • Stage I - APP is increasing (efficiency is increasing) and MPP > APP (getting more from an additional unit than the average unit). Irrational to produce in this area: can increase net revenue by moving to Stage II.

    • Stage II - APP > MPP and MPP is positive. Rational area to produce in.

    • Stage III - MPP is negative. An additional input reduces TPP. Irrational to produce in this area.

Stages of Production

FREC 150 – Economics of Agricultural and Natural Resources

  • Effect of New Technology

    • New technology “shifts” the production function in a variety of ways. See Figures 3-2 and 3-3 (old book).

    • Typically, allows producer to get more output per unit of input over at least some range of production.

    • Examples:

      • the assembly line for car production (1908)

      • new seed varieties – The Green Revolution (1945)

      • new pesticides and herbicides

      • “robotic welders”

Impact of New Technology

  • Value Relationships

    • Physical values (bushels of corn, for example), allow you to identify a range of possible optimal input levels – Stage II.

    • To identify the exact amount, need to convert the output (bushel of corn) to dollar value of the output (the value of a bushel of corn).

    • This is done by scaling (or multiplying) TPP, APP and MPP by the price of a bushel of corn – what a bushel of corn can be sold for in the market.

    • This converts

      • TPP to Total Value Product or TVP.

      • APP to Average Value Product or AVP, and

      • MPP to Marginal Value Product or MVP.

    • TVP, AVP and MVP are Dollar Values ($$)

      • See Table 6-5 and Figure 6-6.

      • For graphing purposes, the vertical axis is now in Dollars.  

Value Relationships

Correction: 5 is 3 – 4

In Table 6-5.

  • Most Useful Concept

    • Marginal Value Product (MVP) - the amount added to "revenue" when an additional unit of the variable input is used.

    • MVP = TVP / X1= change in the value of output / unit change in input or

    • = MPPinput * Poutput

  • One Final Thing – The Cost of the Input

    • Marginal Factor Cost (MFC or MIC) measures the addition to total cost of an additional unit of an input.

    • MFCinput is equal the market price of the input.

  • Optimum Amount of a Variable Input to Use

    • Then optimum amount of a variable input is being used when: 

      • MVPinput = MFCinput

    • The cumulative net benefit (the total revenue over the total cost of using the variable input ) is maximized!

    • See Table 6-5.

  • A Firm’s Demand for a Variable Input

    • It is the quantity of an input the firm would buy at alternative prices.

    • Specifically, the firm's demand curve for an input is the MVP curve (within Stage II of production), ceteris paribus.

    • The firm's demand for an input is a derived demand. That is, it is derived from the demand for the output produced by the input.

    • Factors that cause the demand for an input to change are:

      • Change in demand (and price ) of the output

      • Change in the productivity of the input

      • Change in the price of other inputs (substitutes and complements)

Firm’s Demand for an Input

An Application of the MVP Concept

  • Use of a Resource to Benefit Society

    • The fixed amount (1 million gallons) of water in a reservoir can be used to irrigate corn on a nearby farm or as a coolant in a nearby plant that makes X’s (any product).

    • You are hired by “society” and put in charge of allocating the water?

      • How should the water be allocated between the two uses?

Information Needed

  • If water used to grow corn -

  • If water used to make X’s -

Flip the Right Graph!

$ $

Water to Farm

Water to Plant

What is the optimum allocation? Why?

Principle of Equi-marginal Returns

  • Principle of Equi-marginal Returns – a scarce resource should be allocated between alternative uses so that the marginal returns (in this case, MVP’s) are equal in the alternative uses.

  • What if local environmentalists want to keep the water in place for aesthetic purposes? What about fisher-men, -women?

  • What are the implications for how society should allocate scarce resources?

  • Land? Cars?

    Water? >>> >>> TVs?

    Forests? Food?

Introduction to Production and Resource Use

  • Summary

    • The combination of physical and value (dollar) relationships between inputs and output allows us to make fundamental decisions regarding resource use and allocation in our economic system.

  • Lecture Sources: Text and Miscellaneous Materials

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