Business growth - Costs Flashcards
what is the law of diminishing returns
states that, in the short run, when factors of production are added to a stock of fixed FOP, total/ marginal product will initially rise then fall
marginal product equation
change in total product / quantity
what is average product
total product / quantity
why does marginal product increase to a certain point
- More workers = better specialisation
→ As more units of labour are employed, workers can specialise in specific tasks
→ This increases their efficiency and reduces time wasted switching between tasks
→ So, the additional output (MP) each new worker adds increases
→ This leads to rising MP in the short run - Capital is underutilised at low labour levels
→ Initially, there may be a lot of machinery or capital lying idle
→ Adding workers means this capital can be used more effectively
→ So, each worker can produce more output using the existing capital
→ This boosts the marginal product per worker - Teamwork and collaboration improve productivity
→ A small number of workers may struggle with complex tasks
→ As more workers are hired, tasks can be shared and coordination improves
→ This increases output per additional worker
→ Causing MP to rise initially - Learning by doing (efficiency gains over time)
→ As more labour is used, workers become more experienced
→ This leads to faster, more skilled work and fewer errors
→ Each extra worker then contributes more to output than the last
→ Resulting in increasing MP in the early stages of production
why does MP decrease after a certain point
1️⃣ Fixed Factors of Production → Overcrowding → Inefficiency
In the short run, a firm cannot expand capital (e.g., factory space, machines).
As more workers are added, they have to share the same limited space or machinery.
This leads to overcrowding, causing workers to wait for equipment or get in each other’s way.
As a result, each additional worker contributes less to output, reducing MP.
2️⃣ Declining Capital-to-Labour Ratio → Less Effective Use of Capital
At first, adding workers allows for better use of machinery (e.g., reducing idle time).
However, beyond a certain point, too many workers are using the same fixed capital.
Each worker has less access to equipment, reducing their efficiency.
This leads to a fall in MP, as extra workers add less additional output.
3️⃣ Specialisation Becomes Less Effective → Productivity Falls
Initially, specialisation allows workers to become more efficient.
However, once all possible gains from specialisation are achieved, extra workers add less value.
Instead of improving productivity, additional workers start duplicating tasks or working at a slower rate.
This reduces the extra output per worker, causing MP to decline.
4️⃣ Fatigue & Diminishing Worker Efficiency → Lower Marginal Returns
As production increases, workers may experience fatigue or stress from high workloads.
Mistakes become more common, slowing production and lowering the effectiveness of each extra worker.
Even with the same number of hours worked, diminished energy and focus reduce productivity.
This leads to a decline in MP, as each additional worker produces less output.
5️⃣ Coordination & Communication Issues → Lower Productivity
As the workforce grows, it becomes harder to manage and coordinate employees effectively.
Supervisors and managers struggle to provide instructions efficiently, causing delays and confusion.
Workers spend more time waiting for orders or clarifications, slowing down production.
Poor coordination reduces output per worker, leading to a fall in MP.
why is total product maximised when MP = 0
marginal product shows the additional output produced by one more unit of input
- when MP = 0, adding more input doesnt increase product, meaning total product has reached its maximum
- if MP becomes negative, tp is reduced
what is short run
what is long run
short run - when there is at least one fixed factor of production
long run - when all factors of production are variable
what are explicit costs
cost that require actual payment
what are implicit costs
opportunity costs
what are fixed costs + examples
- costs that do not change with output
eg rent, interest, salaries, advertising, business rates
variable costs + examples
wages, utility bills, raw material costs , transport costs
variable costs + examples
wages, utility bills, raw material costs , transport costs
total fixed costs =
total costs - total variable costs
OR
average fixed costs x quantity
average fixed costs =
total fixed costs \ quantity or average costs - average variable costs
average variable costs =
total variable costs / quantity
OR
average costs - average fixed costs
average costs =
total costs / quantity
marginal costs =
change in total costs / change in quantity
what is marginal cost
extra cost when we produce one more unit of output
why does the MC initially decrease
- increased labour productivity, efficiency, output
why does marginal costs increase after a certain time
law of dmr
what are returns to scale
refers to the changes in output resulting from a proportional increase in all inputs in the production process
- they describe how a firms output responds to scaling up or down the amount of input factors(like land or capital)
meaning of increasing, decreasing and constant returns to scale
increasing - when output increases by a greater proportion than the increase in inputs
constant - when output increases in the same proportion as inputs- eg doubling input leads to a doubling of output
decreasing - when output increases by a smaller proportion than the increase in inputs
what is the minimum efficiency scale on a LRAC curve
- the lowest level of output required to exploit full economies of scale
- costs cant get any lower
Describe the LRAC curve
- firm benefits from economies of scale
- firm reaches minimum efficiency scale(costs cant get any lower)
- firm experiences diseconomies of scale
