It is defined as the transformation of resources into commodities.
Production Function
In the production function, the physical inputs are used. The relationship between the output and the production factors defines a firm’s production function. It is used for the manufacturing process. It displays the numbers of inputs that help produce a high level of output.
Here, Q equals the final units of output; x1 and x2 are production factor 1 and production factor 2. The equation shows that production factors 1 and 2 can be used to produce units of the final output.
Types of Production Function:
Total product: It can be defined as the total sum of all the final units of output produced by a firm using the given amount of inputs for a particular given time period. The firm uses the given amount of inputs for a given time period. Besides, the other factors are held constant. The total product is the relationship between the variable factors of production and the final units of output. Further, the following formula expresses the total product:
Total Product (TP) = ∑ Qx
It depicts the relationship between the variable factors of production and the total output.
Average Production: The variable factor per unit production is the average production.
AP = TPVariable Input
Marginal Product (MP) of an Input: Change in Total Product / Change in Variable Product
Relationship between marginal, total, and average product
MP = ΔTPΔL
MPn = TPn – TPn-1
Returns to a factor: This term describes a scenario of the output behaviour when only one of the variable factor of production is increased in the short-run but all the fixed factors remain constant during that time period
The law states that when more than one unit is used for increased output, the output initially increases at a specific rate.
These are total fixed cost (TFC), total variable cost (TVC) and total cost (TC) curves for a firm. Total cost is the vertical sum of total fixed cost and total variable cost.
Total fixed cost (TFC): This also represents an additional cost such as renting of land and buildings, interest on capital, licence fees, etc. So it is generally the total cost incurred by the manufacturer to provide for all the fixed resources.
TFC = TC − TVC or TFC = AFC × Q
Features of Total Fixed Cost:
(a) It remains constant across all levels of production. Even on a zero exit level, it’s not zero, and further, the TFC curve will be parallel to the X-axis.
(b) Total cost at zero output level will be equal to the total fixed cost.
TVC varies with the amount of the total output that is produced. If the output level is zero then TVC is also zero.
TVC = TC – TFC or TVC = AVC × Q
Salient Features of Total variable cost:
Average cost is defined as the cost of producing one unit of a commodity. It is represented as the sum of the average fixed cost and average variable cost.
Average fixed cost: The fixed cost of producing a commodity per unit.
The average fixed cost curve is a rectangular hyperbola. The area of the rectangle OFCq1 gives us the total fixed cost.
Average variable cost: The variable cost of producing per unit of a commodity. As per the law of variable proportion, AVC is U-shaped.
AVC = TVCQ or AVC = AC − AFC
The area of the rectangle OVBq0 gives us the total variable cost at q0
The total cost curve can be kept parallel to the total variable cost curve.
Relation between MC and AVC:
Relation between MC and AC:
Revenue is defined as the total amount of money earned from the sale of any product or service.
Total Revenue (TR) is the total quantum of money received by a firm from the sale of a specific number of units of a product.
TR = AR X Q or TR = ∑MR
TR = Total Revenue
MR = Marginal Revenue
AR = Average Revenue
Q = Quantity of a product
Concept of Producer’s Equilibrium: The producer’s equilibrium is when the producer makes the most profit for the least amount of money. In addition, it has no incentive to increase or decrease output.
MR and MC Methodology: According to MR and MC methodology, the conditions for producer’s equilibrium are:
Normal Point: The normal point is a situation without any profit or loss, when P = AC. This is the minimum return on investment the producer expects to obtain from their capital in the company.
Break-even point: If AR = AC or when TR =TC, then the firm generates no economic profit, or we can say it is simply covering all of its expenses.
Shut-down point: Shut-down point will occur when a firm only covers its variable costs. In such a scenario the company suffers a total loss on all its fixed costs. (TR < TVC Or AR < AVC)
Supply: Supply is defined as the commodity that a firm or seller is willing to sell at different prices during a given period of time.
The laws of diminishing have three stages, which have been explained in the notes and the effect of these stages has also been discussed. The first stage is dedicated to increasing returns to the factors caused by the underutilisation of fixed factors, increased efficiency of the variable factor, and indivisibility of factors. The second stage is diminishing returns caused by optimal use of fixed and imperfect factors. There will be negative returns if there is poor coordination between the fixed and variable factors. This is the third stage of negative returns to factors.
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