Unit 2: Economic Principles in Agribusiness Lesson: EP1 Diminishing Returns Unit 2: Economic Principles in Agribusiness Lesson: EP1

Objectives Lesson Objective: After completing the lesson on diminishing returns, students will demonstrate their ability to apply the concept in real-world situations by obtaining a minimum score of 80% on a Diminishing Returns Career Development Event Evaluation. Enabling Objectives: Define total product (TP), marginal product (MP), and average product (AP) and identify the relationship between them to illustrate the principle of diminishing physical returns. Define total revenue (TR), total cost (TC), marginal revenue product (MRP), and marginal input cost (MIC), and use them to illustrate the principle of diminishing economic returns. Define the point of maximum profit and maximum production and the relationship between the two.

Key Terms Total product Marginal product Average product Diminishing physical returns Diminishing economic returns Total revenue Total cost Marginal revenue product Marginal input cost

Percent Satisfaction Received My Satisfaction Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 3 95 4 100 5 40

Percent Satisfaction Received Total Product Total product is the total output or yield Represented using the letters TP Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 3 95 4 100 5 40

Percent Satisfaction Received Marginal Product Marginal product is the change in output resulting from each additional unit of input Represented using the letters MP. Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 10 3 95 35 4 100 5 40 -60

Percent Satisfaction Received Average Product Average product is the amount of output produced divided by the number of units of input Represented using the letters AP Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 10 30 3 95 35 31.667 4 100 5 25 40 -60 8

As TP begins to increase, what is happening to MP and AP? Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 10 30 3 95 35 31.667 4 100 5 25 40 -60 8 As TP is increasing at an increasing rate, MP and AP are also increasing.

As TP continues to increase, what happens to MP and AP? Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 10 30 3 95 35 31.667 4 100 5 25 40 -60 8 As TP continues to increase, MP begins to decrease, and then AP begins decreasing.

When MP becomes negative, what happens to TP? Number of Items Eaten Percent Satisfaction Received Number of Inputs Added Marginal Product (MP) Average Product (AP) Total Product (TP) 1 50 2 60 10 30 3 95 35 31.667 4 100 5 25 40 -60 8 Once MP becomes negative, TP begins decreasing.

More practice… What to Do?

What to Do? Workers Jobs/Day (TP) MI MP AP 1 4 xx 2 7 3 3.5 9

Principle of Diminishing Physical Returns The principle of diminishing physical returns states that at some point in time the marginal product decreases with each additional unit of input.

Principle of Diminishing Economic Returns The principle of diminishing economic returns states that beyond some point marginal economic returns decrease with each additional unit of input

Total Revenue Total revenue is the total income from all the jobs Represented using the letters TR. Workers Jobs/Day (TP) MI MP AP TR TC MRP MIC 1 4 xx $140 2 7 3 3.5 $245 9 $315

Total Cost Total cost is the cost of each employee Represented using the letters TC. Workers Jobs/Day (TP) MI MP AP TR TC MRP MIC 1 4 xx $140 $80 2 7 3 3.5 $245 $160 9 $315 $240

Marginal Revenue Product Marginal revenue product is the increase in income created by adding an additional input by hiring another employee Represented using the letters MRP MRP = change in revenue / change in input (MI) Workers Jobs/Day (TP) MI MP AP TR TC MRP MIC 1 4 xx $140 $80 2 7 3 3.5 $245 $160 105 9 $315 $240 70

Marginal Input Cost Marginal input cost is the increase in total cost with each additional unit of input Represented using the letters MIC MIC = change in cost ($) / change in input Workers Jobs/Day (TP) MI MP AP TR TC MRP MIC 1 4 xx $140 $80 2 7 3 3.5 $245 $160 105 80 9 $315 $240 70

How long should Michelle continue to hire employees? As long as MRP is greater than or equal to MIC MRP ≥ MIC Workers Jobs/Day (TP) MI MP AP TR TC MRP MIC 1 4 xx $140 $80 2 7 3 3.5 $245 $160 105 80 9 $315 $240 70

How many workers should Austin hire? Austin owns a lawn mowing service and is considering expansion. He must decide how many workers to hire when his employees receive $50 per week and he gets paid $15 per lawn. Number of Workers Lawns per week (TP) MI AP MP TR MRP TC MIC 1 12 180 xxx 50 2 25 12.5 13 375 195 100 3 35 11.6 10 525 150 4 44 11 9 660 135 200 5 6 750 90 250 55 9.2 825 75 300 7 58 8.3 870 45 350 8 60 7.5 900 30 400 61 6.8 915 15 450 -1 -15 500 How many workers should Austin hire? 6 workers

A farmer is looking at a precision ag firm that can apply fertilizer in 10 lb. increments. The cost of fertilizer is $0.55/lb. Corn is selling for $5.00 per bushel. He has one field that is a mix of Soils A and B. The field is 80 acres with 50 acres of Soil A and 30 acres of Soil B. He has determined that his yields will respond according to the following table: Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP -MIC Soil B MRP - MIC 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815

How much fertilizer should he apply per acre if he fertilizes the entire field based on Soil Type A? lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 150 lbs. b/c MRP is greater than MIC. At 160 lbs., MIC is negative, so money is being lost by adding additional fertilizer.

How much fertilizer should he apply per acre if he fertilizes the entire field based on Soil Type B? lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 170 lbs. b/c MRP is still greater than MIC and MIC is still positive.

Point of Maximum Profit Point of Maximum Production When net economic returns are at their greatest point Point of Maximum Profit is when MIC = MRP Maximum profit always occurs at a point of production that is lower than maximum production When production is at its highest possible level

What are the farmer’s net returns above fertilizer cost for the entire field if he fertilizes the entire field based on Soil A? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP -MIC Soil B MRP - MIC 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815

150 lbs. x 80 acres = 12,000 lbs. x $0.55/lb. = total cost of $6,600 Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 150 lbs. x 80 acres = 12,000 lbs. x $0.55/lb. = total cost of $6,600 130 (Soil A bu/ac) x 50 acres of Soil A = 6500 bu 158 (Soil B bu/ac at 150 lbs/ac fert.) x 30 acres of Soil B = 4740 bu 6500 bu + 4740 bu = 11,240 total bushels x $5.00/bu = $56,200 $56,200 – total cost of $6,600 = net returns of $49,600

What are the farmer’s net returns above fertilizer cost for the entire field if he fertilizes the entire field based on Soil A? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 $49,600

What are the farmer’s net returns above fertilizer cost for the entire field if he fertilizes the entire field based on Soil B? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815

170 lbs. x 80 acres = 13,600 lbs. x $0.55/lb. = total cost of $7,480 Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B MRP -MIC 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 170 lbs. x 80 acres = 13,600 lbs. x $0.55/lb. = total cost of $7,480 132 (Soil A bu/ac at 170 lbs/ac fert.) x 50 acres of Soil A = 6600 bu 163 (Soil B bu/ac) x 30 acres of Soil B = 4890 bu 6600 bu + 4890 bu = 11,490 total bushels x $5.00/bu = $57,450 $57,450 - total cost of $7,480 = net returns of $49,970

What are the farmer’s net returns above fertilizer cost for the entire field if he fertilizes the entire field based on Soil B? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MIC - MRP Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 $49,970

What are his net returns above fertilizer cost for the entire field if he applies 160 pounds per acres on all 100 acres? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 160 lbs. x 80 acres = 12,800 lbs. x $0.55/lb. = total cost of $7,040 131 (Soil A bu/ac) x 50 acres of Soil A = 6550 bu 161 (Soil B bu/ac) x 30 acres of Soil B = 4830 bu 6550 bu + 4830 bu = 11,380 total bushels x $5.00/bu = $56,900 $56,900 – total cost of $7,040 = net returns of $49,860

What are his net returns above fertilizer cost for the entire field if he fertilizes by applying the profit maximizing amount on each soil type? Fertilizer lbs/acre MI MIC Soil A bu/ac MP TR MRP MRP - MIC Soil B 120 xxx $600 140 $700 130 10 $5.50 125 5 $625 $25 $19.50 148 8 $740 $40 $34.50 128 3 $640 $15 $9.50 154 6 $770 $30 $24.50 150 2 $650 $10 $4.50 158 4 $790 $20 $14.50 160 131 1 $655 $5 $-0.50 161 $805 170 132 $660 163 $815 150 lbs. x 50 acres of Soil A = 7,500 lbs. 170 lbs. x 30 acres of Soil B = 5,100 lbs. 7,500 lbs. + 5,100 lbs. = 12,600 total lbs. x $0.55/lb. = total cost of $6,930 130 (Soil A bu/ac) x 50 acres of Soil A = 6500 bu 163 (Soil B bu/ac) x 30 acres of Soil B = 4890 bu 6500 bu + 4890 bu = 11,390 total bushels x $5.00/bu = $56,950 $56,950 – total cost of $6,930 = net returns of $50,020

Conclusion After a certain point, the economic returns for each successive unit of variable resource added to a unit of fixed resource tend to decline. However, one should continue adding inputs as longs as MRP>MIC. In order to receive maximum profit, expand production until MIC = MRC.

Exit Cards What did you learn today about diminishing returns? What questions do you still have about diminishing returns?