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The Theory of Production

The Theory of Production. Relationship between factors of production and the output of goods and services How output changes when inputs change Based on short run Producers only change variable inputs Long run Period long enough for all inputs to vary. Law of Variable Proportions.

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The Theory of Production

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  1. The Theory of Production • Relationship between factors of production and the output of goods and services • How output changes when inputs change • Based on short run • Producers only change variable inputs • Long run • Period long enough for all inputs to vary

  2. Law of Variable Proportions • Output will change as one input is varied • Other inputs are held constant • Examples • Preparing chili and adding more chili powder • Farming and using fertilizer • “too much of a good thing is a bad thing”

  3. The Production Function • Illustrates the Law of Variable Proportions • Variable inputs horizontal • Total output vertical

  4. The Production Function • Total Product • Total output produced by the firm • Marginal Product • Extra output generated by adding one more unit of variable input

  5. Three Stages of Production • Stage I: Increasing Returns • Each input contributes more than the previous • Total output rises at a faster rate • Stage II: Diminishing Returns • Total production is growing • But by smaller amounts • Known as principle of diminishing returns • Stage III: Negative Returns • Total production is decreasing

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