4.3 The Law Of Diminishing Returns And Returns To Scale

Question 1

What is the short run?

Answer 1

• the scale of production is fixed
• there is at least one fixed cost
• For firms, the quantity of labour might be flexible, whilst the quantity of capital is fixed

Question 2

What is the long run?

Answer 2

• the scale of production is flexible and can be changed.
• All costs are variable.

Question 3

What are marginal returns of a factor?

Answer 3

• is the extra output derived per extra unit of the factor employed

Question 4

What are average returns of a factor?

Answer 4

• is the output per unit of input.
• This is output per worker over a period of time.

Question 5

What are total returns of a factor?

Answer 5

• is the total output produced by a number of units of factors (e.g. labour) over a period of time.
• The amount of capital is fixed.

Question 6

What does the law of diminishing returns assume?

Answer 6

• assumes that firms have fixed factor resources in the short run and that the
  state of technology remains constant.
• However, the rise of things like out-sourcing means that firms can cut their costs and their production can be flexible.

Question 7

When does diminishing returns occur?

Answer 7

• only in the short run

Question 8

What factor could be increased in the short run?

Answer 8

• the variable factor
• For example, firms might employ more labour.
• Over time, the labour will become less productive, so the marginal return of the labour falls.
• An extra unit of labour adds less to the total output than the unit of labour before.
• Total output still rises, but it increases at a slower rate. This is linked to how productive labour is.

Question 9

What are returns to scale?

Answer 9

• refers to the change in output of a firm, after an increase in factor inputs.

Question 10

When do returns to scale increase?

Answer 10

• when the output increases by a greater proportion to the increase in inputs.
• For example, if input doubles, and output quadruples, there is said to be increasing returns to scale.

Question 11

When do returns to scale decrease?

Answer 11

• on the other hand, a doubling of input leads to a 1.5 times increase in output,
• there are decreasing returns to scale.
• This is linked to diseconomies of scale, since it occurs when the firm becomes less productive.

Question 12

What are constant returns to scale?

Answer 12

• when output increases by the same amount that input increases by.