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Production
Defined as any activity that creates present or future utility
The chapter describes the production possibilities available to us with a given state of technology and resources
The Production Function
A means of describing the technically efficient quantities of outputs corresponding to all possible combinations of inputs
Technical Efficiency & Economic Efficiency Technical Efficiency is the attainment of
the maximum possible output from a given combination of inputs
Economic efficiency occurs when we produce the given level of output at the minimum cost
Intermediate Products
Products that are transformed by a production process into products of greater value (value added)
For simplification, ignore intermediate goods in this chapter
Fixed & Variable Inputs
Long Run: the shortest period of time required to alter the amounts of all inputs used in production
Short Run: the longest period of time during which at least one of the inputs used in a production process cannot be varied
Law of Diminishing Returns
If other inputs are fixed, the increase in output resultant from an increase in the variable input must eventually decline
Total, Marginal & Average Products
The total product curve shows the amount of output as a function of the amount of variable input
Total, Marginal & Average Products
Marginal product is a change in total product due to a one-unit change in the variable input
The average product is the total output divided by the quantity of the variable input
The Relationships Between Curves
When the marginal product curve lies above the average product curve, the average product curve must be rising
When the marginal product curve lies below the average product curve, the average product curve must be falling
The two curves intersect at the maximum value of the average product curve
Rules for resource allocation
Rule for non-perfectly divisible inputs
Where marginal product of an input is higher in one activity, allocate each unit of the input to the activity with the highest marginal product.
Rule for perfectly divisible inputs
Where marginal product of an input is not always higher in one activity, allocate each unit of the input so that marginal product is the same in every activity.
Production in the Long Run
All factors are variable
Isoquants are the set of all technically efficient input combinations that yield a given level of output
The Marginal Rate of Technical Substitution (MRTS)
The rate at which one input can be exchanged for another without altering the total level of output
Returns to Scale
Tells us what happens to output when all inputs are increased by exactly the same proportion
The concept of returns to scale is a long-run concept
Returns to Scale: Increasing
Increasing returns to scale occur when a proportional increase in every input yields a more than proportional increase in output
Returns to Scale
Constant returns to scale occur when a proportional increase in every input yields an equal proportion increase in output
Decreasing returns to scale occur when a proportional increase in every input yields a less than proportional increase in output