NCERT Class 12 Economics Production and Costs

In the previous chapter, we have discussed the behaviour of the consumers. In this chapter as well as in the next, we shall examine the behaviour of a producer. A producer or a firm acquires different inputs like labour, machines, land, raw materials, etc. Combining these inputs, it produces output. This is called the process of production. In order to acquire inputs, it has to pay for them. That is the cost of production. Once the output has been produced, the firm sells it in the market and earns revenue. The revenue that it earns net of cost is the profit of the firm. We assume here that the objective of a firm is to maximise its profit. A firm looking at its
cost structure and the market price of output decides to produce an amount of output such that its profit reaches the maximum. In this chapter, we study different aspects of the production function of a firm. We discuss here – the relationship between inputs and output, the contribution of a variable input in the production process and different properties of production function. Then we look at the cost structure of the firm. We discuss the cost function and its various aspects. We learn about the properties of the short run and the long run cost curves.

PRODUCTION FUNCTION

The production function of a firm is a relationship between inputs used and output produced by the firm. For various quantities of inputs used, it gives the maximum quantity of output that can be produced. Consider a manufacturer who produces shoes. She employs two workers – worker 1 and worker 2, two machines – machine 1 and machine 2, and 10 kilograms of raw materials. Worker 1 is good in operating machine 1 and worker 2 is good in operating machine 2. If worker 1 uses machine 1 and worker 2 uses machine 2, then with 10 kilograms of raw materials, they can produce 10 pairs of shoes. However, if worker 1 uses machine  2 and worker 2 uses machine 1, which they are not good at operating, with the same 10 kilograms of raw materials, they will end up producing only 8 pairs of shoes. So with efficient use of inputs, 10 pairs of shoes can be produced whereas an inefficient use results in production of 8 pairs of shoes. Production function considers only the efficient use of inputs. It says that worker 1, worker 2, machine 1, machine 2 and 10 kilograms of raw materials together can produce 10 pairs of shoes which is the maximum possible output for this input combination. A production function is defined for a given technology. It is the technological knowledge that determines the maximum levels of output that can be produced using different combinations of inputs. If the technology improves, the maximum levels of output obtainable for different input combinations increase. We then have a new production function.
The inputs that a firm uses in the production process are called factors of production. In order to produce output, a firm may require any number of different inputs. However, for the time being, here we consider a firm that produces output using only two factors of production – factor 1 and factor 2. Our production function, therefore, tells us what maximum quantity of output can be produced by using different combinations of these two factors.A numerical example of production function is given in Table 3.1. The left column shows the amount of factor 1 and the top row shows the amount of factor 2. As we move to the right along any row, factor 2 increases and as we move down along any column, factor 1 increases. For different values of the two factors, the table shows the corresponding output levels. For example, with 1 unit of factor 1 and 1 unit of factor 2, the firm can produce at most 1 unit of output; with 2 units of factor 1 and 2 units of factor 2, it can produce at most 10 units of output; with 3 units of factor 1 and 2 units of factor 2, it can produce at most 18 units of output and so on.

Excercise

1. Explain the concept of a production function.
2. What is the total product of an input?
3. What is the average product of an input?
4. What is the marginal product of an input?
5. Explain the relationship between the marginal products and the total product of an input.
6. Explain the concepts of the short run and the long run.
7. What is the law of diminishing marginal product?
8. What is the law of variable proportions?
9. When does a production function satisfy constant returns to scale?
10. When does a production function satisfy increasing returns to scale?

11. When does a production function satisfy decreasing returns to scale?
12. Briefly explain the concept of the cost function.
13. What are the total fixed cost, total variable cost and total cost of a firm? How are they related?
14. What are the average fixed cost, average variable cost and average cost of a firm? How are they related?
15. Can there be some fixed cost in the long run? If not, why?
16. What does the average fixed cost curve look like? Why does it look so?
17. What do the short run marginal cost, average variable cost and short run average cost curves look like?
18. Why does the SMC curve cut the AVC curve at the minimum point of the AVC curve?
19. At which point does the SMC curve cut the SAC curve? Give reason in support of your answer.
20. Why is the short run marginal cost curve ‘U’-shaped?

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