1. Laws of Diminishing returns
Numerical example

2. Factor Costs: Labour – wages/salaries Land – rent Capital – interest
Enterprise - profit

3. Short and Long run:
Short run – some factors fixed and cannot be increased/reduced
Long Run – time taken to vary all factors of production
Short and long run vary in all industries:

4. How can these ‘businesses’ increase productivity in the short run?
Railways
Supermarkets
Local Builder

5. How can these ‘businesses’ increase productivity in the short run?
Railways
‘easy’ to increase labour
Supermarkets
can buy new shelving, hire staff
Local Builder
new tools, hires assistant
How can they increase production in the Long run?
And how long is a long run?

6. How can they increase production in the Long run and how long is a long run?
Railways
long lead times for new rolling stock – 5 years
Supermarkets
Open new stores - takes several years
Local Builder
purchase a new van – takes a couple of months

7. Diminishing Marginal Returns
Assumptions – some factors fixed (e.g. capital and land)
Adding variable factor –labour
Total Product
Average Product = TP / Qv (variable factor)
Marginal Product = ΔTP/ΔQv

8. Law of Diminishing Returns
Capital Input
Labour Input
Total Output
Marginal Product
Average Product of Labour 20 1 5 2 16 3 30 4 56 85 6
114 7
140 8
160 9
171 10
180 11
187
More labour = more output…
but when does ‘diminishing returns’ happen?

9. Total output – so where does diminishing returns set in?
Can you see it yet???
So you need to calculate marginal product

10. Calculate Marginal Product…
Capital Input
Labour Input
Total Output
Marginal Product
Average Product of Labour 20 1 5 2 16 11 3 30 4 56 85 6
114 7
140 8
160 9
171 10
180
187
To calculate MP
At 2 workers….
16-5 = 11
So you can calculate the rest!

11. Marginal product results…
So where are the
increasing returns?
Optimal returns?
and diminishing returns?
Marginal product results…
Capital Input
Labour Input
Total Output
Marginal Product
Average Product of Labour 20 1 5 2 16 11 3 30 14 4 56 26 85 28 6
114 29 7
140 8
160 9
171 10
180
187
At low levels of labour input, the fixed factors of production - land and capital, tend to be under-utilised which means that each additional worker will have plenty of capital to use and, as a result, marginal product may rise.
Beyond a certain point however, the fixed factors of production become scarcer and new workers will not have as much capital to work with so that the capital input becomes diluted among a larger workforce.
As a result, the marginal productivity of each worker tends to fall – this is known as the principle of diminishing returns.   

12. Average Product
So now calculate the average product… total output / labour
Capital Input
Labour Input
Total Output
Marginal Product
Average Product of Labour 20 1 5 2 16 11 8 3 30 14 4 56 26 85 28 6
114 29 7
140
160 9
171 10
180
187

13. So how many workers are productively efficient?
Should the co employ 6 7 8
workers?
So how many workers are productively efficient?
Capital Input
Labour Input
Total Output
Marginal Product
Average Product of Labour 20 1 5 2 16 11 8 3 30 14 10 4 56 26 85 28 17 6
114 29 19 7
140
160 9
171
180 18
187
Using this logic – the co should only employ 6 workers. NO because the 7th, 8th etc worker still produces more on average – just that the returns are diminishing…. So how does a business decide how many workers to employ? Need to look at costs as well

14. Its easier to see on a graph…

15. Productive efficiency is at…
8 workers
producing 160 units..

16. So now try an exercise yourself
Don’t panic – this isn’t part of a DR or an essay……
However, it is the fundamental foundations of what you MUST KNOW for Marginal Costs, productive efficiency and economies of scale…i.e. unit 5!