M2 THEORY OF PRODUCTION

• Fixed Factors - its employment remain constant when output increases.
• Variable Factors - its employment increases as output increases.
• Short Run - a period when there are both fixed factors and variable factors.
• Long Run - a period when all factors are variable.
• Short Run - a firm can expand output by employing more variable factors only.
• Long Run - a firm can expand output by increasing the use of all factors.
• TP - increases initially and decreases eventually with increasing amount of workers.
• AP - increases initially but decreases eventually.
• Average Product (AP) - is total product divided by the number of workers.
• Marginal Product (MP) - is the change in total product as a result of a change in input.
• Law of Diminishing Marginal Returns - As more and more variable factors are added to a given quantity of fixed factors, holding technology constant, marginal product eventually drops.
• The Lessons of Diminishing Returns - 


  1. The size of a resource, given the rest as fixed should not go beyond its product-maximizing point.
  2. The plant capacity can only increase with more resources combined unless technology changes.
  3. Resources are basically complementary.
• Basic Ways to Improve Efficiency -

  1. Change the nature of the resource through innovation.
  2. Change the external condition of resources such as the organization of work.
  3. Utilization of resource-saving technology.
• Innovation - The process of introducing new ideas or methods into an existing system.