Long Questions With Answers - Production And Costs
Q.1. Giving reasons, state whether the following statements are true or false:
(i) Average Costs fall only when Marginal Cost falls
(ii) The difference between Average Total Cost and Average Variable Cost is constant
(iii) When Total Revenue is maximum, Marginal Revenue is also maximum.
Ans.
(i) Ans: False.
Explanation: Average Cost (AC) falls whenever Marginal Cost (MC) is less than AC. The MC curve cuts the AC curve at AC's minimum. Therefore AC can be falling even when MC is rising, provided MC is still below AC. It is not necessary that MC itself must fall for AC to fall.
(ii) Ans: False.
Explanation: The difference between Average Total Cost (ATC) and Average Variable Cost (AVC) equals Average Fixed Cost (AFC), i.e., ATC - AVC = AFC = Fixed Cost ÷ Output. As output increases, AFC falls because the same fixed cost is spread over more units. Hence the difference is not constant; it declines as output rises (unless fixed cost is zero).
(iii) Ans: False.
Explanation: Marginal Revenue (MR) is the change in Total Revenue (TR) when one more unit is sold. When TR reaches its maximum, any further change in output does not increase TR, so MR at that point is zero. Therefore MR is zero at the maximum of TR, not maximum itself.
Q.2. Giving reasons, state whether the following statements are true or false:
(i) When there are diminishing returns to a factor, Marginal Product and Total Product both always diminish
(ii) When Marginal Revenue is positive and constant,Average and Total Revenue will both increase at constant rate
(iii) As output is increased, the difference between Average Total Cost and Average Variable Cost falls and ultimately become zero.
Ans.
(i) Ans: False.
Explanation: Diminishing returns to a factor means that Marginal Product (MP) of the variable factor starts to fall as more units are employed. However, Total Product (TP) does not necessarily fall at that stage; TP continues to increase but at a decreasing (slower) rate. TP only begins to fall when MP becomes negative.
(ii) Ans: False.
Explanation: If Marginal Revenue is positive and constant (as in a perfectly competitive market where price is constant), Average Revenue (AR) is constant (equal to price) and does not increase. Total Revenue (TR) increases at a constant rate because each additional unit adds the same amount to TR. Thus AR remains constant while TR rises steadily.
(iii) Ans: False.
Explanation: The difference between Average Total Cost and Average Variable Cost is Average Fixed Cost (AFC). AFC = Fixed Cost ÷ Output, so it falls as output rises but does not become zero for any finite output (unless fixed cost is zero). Therefore the difference declines with output but does not ultimately become zero in normal circumstances.
Q.3. State whether the following statements are true or false. Give reasons for your answer.
(i) When there are diminishing returns to a factor Total Product first increases and then starts falling
(ii) When Marginal Revenue falls to zero, Average Revenue becomes maximum
(iii) The difference between Total Cost and Total Variable Cost falls with increase in output
Ans.
(i) Ans: True.
Explanation: Under diminishing returns, Marginal Product (MP) falls after a point. Initially, while MP is positive, Total Product (TP) continues to rise - first at an increasing rate if MP is rising, then at a diminishing rate as MP falls. If MP eventually becomes negative, TP will start to fall. Thus TP often first increases and may later fall when MP turns negative.
(ii) Ans: False.
Explanation: When Marginal Revenue falls to zero, Total Revenue is at its maximum. Average Revenue (AR), which is TR divided by output, does not necessarily become maximum at that point - AR typically continues to fall in imperfectly competitive markets. Hence MR = 0 corresponds to TR maximum, not AR maximum.
(iii) Ans: False.
Explanation: Total Cost (TC) minus Total Variable Cost (TVC) equals Total Fixed Cost (TFC). Since fixed costs do not change with output, TFC remains constant at all output levels. Therefore the difference between TC and TVC does not fall with output; it remains constant.
Q.4. Identify the three phases of the Law of Variable Proportions from the following and also give reason behind each phase:
Ans. The Law of Variable Proportions describes how output changes when successive units of a variable factor are added to fixed factors. The three phases are:
Phase I - Increasing Returns (or Increasing Marginal Returns): In this phase, each additional unit of the variable factor raises Marginal Product (MP) and Total Product (TP) increases at an increasing rate. Reason: Better utilisation and division of labour between factors improve productivity, so extra units of the variable factor add more output than the previous unit.
Phase II - Diminishing Returns (or Decreasing Marginal Returns): Here MP starts falling but remains positive, so TP still increases but at a diminishing rate. Reason: As more units of the variable factor are added, fixed factors become limiting; each additional unit contributes less than the previous one because of congestion or less efficient use of fixed resources.
Phase III - Negative Returns: In this phase MP becomes negative and TP begins to fall. Reason: Excessive employment of the variable factor causes overcrowding and inefficiencies that reduce overall output.
Q.5. Explain the law of returns to a factor with the help of Total Product and Marginal Product schedule.
Ans. Returns to a factor measure how Total Product (TP) changes when one more unit of a variable factor is employed while other factors remain fixed. The law is illustrated using a TP and MP schedule. From the typical schedule:
- Increasing returns: When MP rises from 10 to 12 units, TP increases at an increasing rate. This occurs because additional units of the variable factor are used more efficiently with the fixed factor.
- Diminishing returns: When MP falls from 12 to 8 to 5 units, TP still increases but at a diminishing rate. Each additional unit adds less than the previous one because the fixed factor limits effective use.
- Negative returns: When MP falls from 5 units to -5 units, TP falls (for example, from 35 to 30). This happens when adding more of the variable factor reduces overall output due to severe overcrowding or misallocation.
FAQs on Long Questions With Answers - Production And Costs
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