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PB102 MICROECONOMICS

PB102 MICROECONOMICS. CHAPTER 5 THEORY OF PRODUCTION. Chapter Objectives. Firm’s behavior in production process How producer determined the level of output which give maximize output Firm’s equilibrium – determination of price and output level

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PB102 MICROECONOMICS

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  1. PB102 MICROECONOMICS CHAPTER 5 THEORY OF PRODUCTION

  2. Chapter Objectives • Firm’s behavior in production process • How producer determined the level of output which give maximize output • Firm’s equilibrium – determination of price and output level • Which combination of factors of production give higher level of output? • Which combination of factors of production that minimize the cost?

  3. SHORT-RUN THEORY OF PRODUCTION • Profits and the aims of the firm • Long-run and short-run production: • fixed and variable factors • The law of diminishing returns • The short-run production function: • total product (TP) • average product (AP) • marginal product (MP) • the graphical relationship between TP, AP and MP

  4. Total Product (TP) • Total Product (TP) is the amount of output produced when a given amount of that input is used along with fixed input

  5. Average Product • The average product will measure the productivity of labor by calculating the total output produced by a labor in a day • Can be obtain as: AP = Total Product Total Labor

  6. Marginal Product • The relationship between changes in total output corresponding changes in additional unit of labor, assuming other inputs is fixed • Can be obtained as: Marginal Product (MP) = Change in Total Product Change in Labor

  7. The Law of Diminishing Returns • Determines the shape of Marginal Product Curve • States that beyond some point the marginal product decreasesas additional units of a variable factor (labor) are added to fixed factor (land)

  8. Wheat production per year from a particular farm (tonnes) Diminishing returns

  9. Wheat production per year from a particular farm Number of workers 0 1 2 3 4 5 6 7 8 TP 0 3 10 24 36 40 42 42 40 Tonnes of wheat produced per year Number of farm workers

  10. Wheat production per year from a particular farm TP Tonnes of wheat produced per year Number of farm workers

  11. Wheat production per year from a particular farm TP Diminishing returns set in here Tonnes of wheat produced per year b a Number of farm workers

  12. Wheat production per year from a particular farm d TPP Maximum output Tonnes of wheat produced per year b a Number of farm workers

  13. Wheat production per year from a particular farm TP Tonnes of wheat per year DTP = 7 Number of farm workers (L) DL = 1 MP = DTP / DL = 7 Tonnes of wheat per year Number of farm workers (L)

  14. Wheat production per year from a particular farm TP Tonnes of wheat per year Number of farm workers (L) Tonnes of wheat per year Number of farm workers (L) MPP

  15. Wheat production per year from a particular farm TP Tonnes of wheat per year Number of farm workers (L) AP = TP / L Tonnes of wheat per year AP Number of farm workers (L) MP

  16. Wheat production per year from a particular farm TP Tonnes of wheat per year b Diminishing returns set in here Number of farm workers (L) b Tonnes of wheat per year AP Number of farm workers (L) MPP

  17. Wheat production per year from a particular farm d TP Maximum output Tonnes of wheat per year b Number of farm workers (L) b Tonnes of wheat per year AP d Number of farm workers (L) MP

  18. Wheat production per year from a particular farm d c Slope = TP / L = AP TP Tonnes of wheat per year b Number of farm workers (L) b c Tonnes of wheat per year AP d Number of farm workers (L) MP

  19. LONG-RUN THEORY OF PRODUCTION • All factors variable in long run • The scale of production: • constant returns to scale • increasing returns to scale • decreasing returns to scale

  20. LONG-RUN THEORY OF PRODUCTION • Economies of scale • specialisation & division of labour • indivisibilities • container principle • greater efficiency of large machines • by-products • multi-stage production • organisational & administrative economies • financial economies • economies of scope

  21. LONG-RUN THEORY OF PRODUCTION • Diseconomies of scale • External economies and diseconomies of scale • Optimum combination of factorsMPPa/Pa = MPPb/Pb ... = MPPn/Pn

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