1 / 38

Economic Analysis for Managers (ECO 501) Fall:2 012 Semester

Economic Analysis for Managers (ECO 501) Fall:2 012 Semester. Khurrum S. Mughal. Theme of the Lecture. Production Theory Introduction The Production Function Production with One Variable Input Production with Two Variable Input Returns to Scale. Production.

hung
Download Presentation

Economic Analysis for Managers (ECO 501) Fall:2 012 Semester

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript


  1. Economic Analysis for Managers (ECO 501)Fall:2012Semester Khurrum S. Mughal

  2. Theme of the Lecture • Production Theory Introduction • The Production Function • Production with One Variable Input • Production with Two Variable Input • Returns to Scale

  3. Production Production refers to the transformation of inputs or resources into outputs of goods and services

  4. Production INPUTS CAPITAL LABOR Land & Structures Natural Resources Entrepreneur Workers Machinery plant & equipment

  5. Factors of Production • Short Run- At least one input is fixed • Long Run - All inputs are variable • The length of long run depends on industry.

  6. Level and Scale of Production Level of production can be altered changing the proportion of variable inputs Output = Fixed inputs + Variable inputs • Scale of production can be altered by changing the supply of all the inputs (only in the long run) Output = Total inputs(variable inputs)

  7. Production Function • General equation for Production Function: Q = f (K,L), where L = Labour K = Capital • Maximum rate of output per unit of time obtainable from given rate of Capital and Labour • An engineering concept: Relates out puts and inputs

  8. Production Function with Two Inputs Q = f(L, K) 6 10 24 31 36 40 39 5 12 28 36 40 42 40 4 12 28 36 40 40 36 3 10 23 33 36 36 33 2 7 18 28 30 30 28 1 3 8 12 14 14 12 1 2 3 4 5 6 • Devoid of economics Capital (K) Labor (L) • Substitutability between factors of production • Returns to Scale vs Returns to Factor

  9. Theme of the Lecture • Production Theory Introduction • The Production Function • Production with One Variable Input • Production with Two Variable Input • Returns to Scale

  10. Production With One Variable Input Total Product TP = Q = f(L) Marginal Product TPL MPL = Average Product TP L Production orOutput Elasticity MPL APL APL = Q/Q L/L Q/ L Q/L EL = = = • Q = f (K,L), where K is fixed

  11. Production With One Variable Input Total, Marginal, and Average Product of Labor, and Output Elasticity

  12. Production With One Variable Input MP AP E L Q L L L 0 0 - - - 1 3 3 3 1 2 8 5 4 1.25 3 12 4 4 1 4 14 2 3.5 0.57 5 14 0 2.8 0 6 12 -2 2 -1 Total, Marginal, and Average Product of Labor, and Output Elasticity

  13. Law of Diminishing Returns and Stages of Production Stage I of Labor Stage II of Labor Stage III of Labor D’ A’ E’ F’ Total Product 16 D E 14 C F TP 12 I 10 B 8 G 6 A 4 2 Marginal & Average Product 0 0 1 2 3 4 5 6 7 Labor 6 B’ C’ 5 4 3 AP 2 1 0 0 1 2 3 4 5 6 7 -1 MP Labor -2 -3

  14. Relationship Among Production Functions • 1: • Marginal product reaches a maximum at L1 (Point of Inflection G). The total product function changes from increasing at a increasing rate to increasing at a decreasing rate. • 2: • MP intersects AP at its maximum at L2. • 3: • MP becomes negative at labor rate L3 and TP reaches its maximum.

  15. Optimal use of the Variable Input Marginal RevenueProduct of Labor MRPL = (MPL)(MR) Optimal Use of Labor MRPL = w

  16. Optimal use of the Variable Input MP L MR = P L 2.50 4 $10 3.00 3 10 3.50 2 10 4.00 1 10 4.50 0 10 Assumption : Firm hires additional units of labor at constant wage rate = $20

  17. Optimal use of the Variable Input MP MRP w L MR = P L L 2.50 4 $10 $40 $20 3.00 3 10 30 20 3.50 2 10 20 20 4.00 1 10 10 20 4.50 0 10 0 20 Assumption : Firm hires additional units of labor at constant wage rate Use of Labor is Optimal When L = 3.50

  18. Optimal use of the Variable Input $ 40 30 20 10 w = $20 dL = MRPL 0 2.5 3.0 3.5 4.0 4.5 Units of Labor Used

  19. Optimal use of the Variable Input • Production function of global electronics: • Q=2k0.5L0.5 • Compute Optimal use of labor when • K is fixed at 9, • Price is Rs. 6 per unit • and wage rate is Rs. 2 per unit

  20. Theme of the Lecture • Production Theory Introduction • The Production Function • Production with One Variable Input • Production with Two Variable Input • Returns to Scale

  21. Production with Two Variable Input Isoquants show combinations of two inputs that can produce the same level of output. K 6 10 24 31 36 40 39 5 12 28 36 40 42 40 Q 4 12 28 36 40 40 36 3 10 23 33 36 36 33 18 2 7 28 30 30 28 1 3 8 12 14 14 12 1 2 3 4 5 6 L

  22. Marginal Rate of Technical Substitution K

  23. Marginal Rate of Technical Substitution • A movement down an Isoquant the • gain in out put from using more labor equals loss in output from using less capital • MRTS: Slope of the Isoquant • _ (MPL) = MRTS • (MPK)

  24. ISOCOST Isocost lines represent all combinations of two inputs that a firm can purchase with the same total cost.

  25. Isocost Line Capital AB C = $100, w = r = $10 A 10 8 6 4 2 slope = -w/r = -1 vertical intercept = 10 1K 1L B Labor 2 4 6 8 10

  26. Isocost Line Capital A’ 14 10 8 4 Isocost Lines AB C = $100, w = r = $10 A’B’ C = $140, w = r = $10 AB* C = $100, w = $5, r = $10 A B B’ B* 0 Labor 4 8 10 12 14 16 20

  27. Optimal Combination of Inputs Isocost Lines AB C = $100, w = r = $10 A’B’ C = $140, w = r = $10 A’’B’’ C = $80, w = r = $10 MRTS = w/r

  28. Optimal Employment of Two Inputs MPL = w MPL = MPK w r MPK r • Optimal combination is where slope of Iso Cost and that of Isoquant are equal:

  29. Profit Maximization MPL = w MPL = MPK w r MPK r • To maximize Profits, each input must be hired at the efficient input rate • MRPL = w = (MPL)(MR) • MRPK = r = (MPK)(MR) • Profit Maximizing follows that the firm must be operating efficiently

  30. Expansion Path

  31. Theme of the Lecture • Production Theory Introduction • The Production Function • Production with One Variable Input • Production with Two Variable Input • Returns to Scale

  32. Economies of Scale - Returns to Scale Production Function Q = f(L, K) Q = f(hL, hK) If  = h, constant returns to scale. If  > h, increasing returns to scale. If  < h, decreasing returns to scale.

  33. Returns to Scale Constant Returns to Scale Increasing Returns to Scale Decreasing Returns to Scale

  34. Returns to Scale in An Empirical Production Function Cobb-Douglas Production Function Q = AKaLb If a + b = 1, constant returns to scale. If a + b > 1, increasing returns to scale. If a + b <1, decreasing returns to scale.

  35. Sources of Increasing Returns to Scale • Technologies that are effective at larger scale of production generally have higher unit costs at lower level of production • Labor Specialization • Labor may specialize in their specific tasks and perform it efficiently • Inventory economies • Larger firms have lesser need for machine inventory backup

  36. Sources of Decreasing Returns to Scale • Managerial Issues due to large size of the firm • Increased Transportation costs • Larger labor costs due to requirement of increased wages to attract labor from farther areas

  37. Economies of Scope • Using facility for producing additional products • E.g. Daewoo Bus Service for passenger and cargo movement • Using unique skills or comparative advantage • Proctor & Gamble using its existing sales staff and production capabilities for marketing various products as substitutes and complements

  38. Measuring Productivity • Total Factor Productivity

More Related