Economic Response To Productive Inputs Part 2

Question 1

What is an Isoquant?

Answer 1

Isoquant is a curve for various combinations of inputs used to produce a given level of output.
Output does not change along the curve.
Eg. same yield might be achieved with different combinations of capital and labour.

Question 2

What is meant by Input Substitution?

Answer 2

Resources (the inputs) can be substituted for one another and still yield a given amount of the output.
• The difficulty of this substitution is therefore depend on the shape of the isoquant.

Question 3

What are the three basic shapes of Input Substitution?

Answer 3

Perfect substitutes Imperfect substitutes Perfect complements

Question 4

What is a Perfect Substitute?

Answer 4

Perfect substitutes are resources that are perfectly able to replace one another without affecting the output.
Isoquant is a straight line (an extreme situation).
Eg. two brands of chemicals.
Deciding which to use is easy, select the cheaper.

Question 5

What is a Imperfect Substitute?

Answer 5

It takes larger (or smaller) amounts of one input to replace the other input to maintain a given level of
the output.
Limit of substitution could occur when the MPP of the inputs becomes zero.
A typical situation. Eg. capital and labour

Question 6

What is a Perfect Compliment?

Answer 6

Inputs must be used in a specific proportion. An additional amount of one input or the other will add nothing to total production.
Decision is to use the pair of inputs rather than the ratio of use.
An extreme situation Eg. tractor and plough

Question 7

What is the Marginal Rate Of Substitution(MRS)?

Answer 7

Marginal rate of substitution is the additional amount of one input required to compensate for a small decrease in the quantity of other input.
• MRS is proportional to the slope of an isoquant (and therefore measured by slope at a point).
• Isoquant for the imperfect substitutes is a curving line illustrating diminishing marginal rate of substitution.
(Or, called as Marginal Rate of Technical Substitution MRTS)

Question 8

What is the Slope Of An Isoquant?

Answer 8

The slope of an isoquant is referred to as the Marginal Rate of Technical Substitution, or MRTS.
If output remains unchanged along an isoquant, the loss in output from decreasing labor must be identical to the gain in output from adding capital.
MRTS = ΔCapital ÷ ΔLabor

Question 9

What is an Isoquant Line?

Answer 9

A curve showing the combinations of two inputs that can be bought for any given sum of money. If firms are acting as price takers this will be a straight line.
• In equilibrium a farm will use the inputs it buys to produce the largest possible output.
• Farms need to minimise the cost of producing a given amount of output.

Question 10

What is meant by an Input Price Change?

Answer 10

A change in price of one input (or both) will cause the isocost line to shift. This will affect the desired amounts of inputs use (and also the level of output).
•Eg. if cost of labour increases the slope of isocost line will increase and that the least cost combination will be to use more of capital and less of labour

Question 11

What is Scale Economies or Economies of Scale?

Answer 11

Economies of scale refers to joint productivity of all inputs when increased by same proportion.
• For a two input system if inputs are increased by 10%
and the Output:
rises by > 10% - increasing economies of scale rises by

Question 12

What is meant by Combining Enterprises (Producing two outputs)?

Answer 12

Widespread enterprise adjustments in response to changing economic and climatic conditions have taken place over longer periods of time (eg. wool to crops)
• Farmers typically produce two or more types of grains, or produce both livestock and grain, or two types of livestock
(farmers often have more than one enterprise).
• A relationship between the two enterprises is referred as product-product relationship.

Question 13

What is a Production Possibilities Curve?

Answer 13

Production possibilities curve identifies the maximum output for each and every combination of the two enterprises that a farm’s resources can produce.
The full range of possible allocations is called the farm’s production possibilities curve
Eg: crops and livestock as
shown in the Figure.
To produce more of one product the output of another will have to be reduced (diminishing rate of product substitution).

Question 14

What is an Isorevenue Line?

Answer 14

Isorevenue line shows all possible combinations of the two products sold that will bring the same level of total revenue. It is a straight line in larger market (as prices are fixed).
Total revenue is maximized when slope of isorevenue line is tangent to
Crops
Iso-revenue line the slope of production possibility curve - optimal combination of the two products (at point A) where the price ratio of two products is equal to the slope of the production possibility curve (marginal rate of product substitution).

Question 15

Key Terms

Answer 15

• Isoquant (combinations of inputs to produce a level of output; shape of the curve varies - Ag. examples!)
• Isocost line (represent costs of inputs combinations) • Diminishing marginal rate of substitution (inputs)
• Optimum inputs combination when least cost
• Price(s) of the input(s) can change the optimum use • Production Possibility Frontier (various combinations
of output for the use of same levels of inputs)
• Diminishing rate of product substitution (outputs)
• Isorevenue line (represent income from the outputs)
• Production can be technically inefficient/impossible