The Theory of Production

5 Key excerpts on "The Theory of Production"

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  eBook - ePub

  The Economics You Need

  • Enrico Colombatto(Author)
  • 2016(Publication Date)
  • Routledge

    (Publisher)

  3 The economics of production and growth

  DOI: 10.4324/9781315658988-4

  3.1 What can the economics of production tell us?

  The relationship between the economics profession and the analysis of production is mixed. On the one hand, economists are attracted by production because it is conceptually simple, does not involve subjective judgements, and provides plenty of opportunities to engage in measurement. In particular, the economist of production observes prices of inputs and outputs, and selects the appropriate techniques to minimise costs and meet consumers’ preferences. Yet, he feels ill at ease when he tries to model how production develops, better technologies come to the surface and progress, new products are conceived, know-how is acquired, people interact and organisations evolve. Ideally, the economist would like to deal with a ‘typical’ firm, and then refer to real firms as specific examples of the typical firms. Yet, the typical firm exists even less than the typical consumer, and theorising becomes a daunting exercise.

  Not surprisingly, the economics profession has in fact restrained its ambitions, and inclined to engage in attempts to enhance our understanding of the production process by categorising the various phenomena involved. In this chapter, therefore, we shall clarify the main concepts that have become familiar in everyday economic parlance (sections 3.2–3.4), delve into the relationship between the economics of production and the life of firms (sections 3.5–3.7) and conclude by commenting on the consequences for growth (section 3.8).

  3.2 Production functions, technologies and productivity

  The basic working tool of production economics is the so-called ‘production function’, which shows how inputs are employed and generate output, subject to an efficiency constraint. Efficiency means that the agent succeeds in producing the maximum possible amount of output, given a set of inputs; or in using the minimum amount of inputs, given an output target. In other words, efficient production means no wastages. Economists describe all this in terms of ‘techniques’ and ‘technologies’. The term ‘technique’ illustrates how inputs can be mixed and transformed into output. For example, a producer can use technique T1 and produce one unit of output with three units of labour and two units of capital; or technique T2 and produce one unit of output with seven units of labour and one unit of capital, or technique T3 and produce one unit of output with nine units of labour and two units of capital (note that T3 is inefficient, since T1 and T2

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  Principles of Agricultural Economics

  • Andrew Barkley, Paul W. Barkley(Authors)
  • 2016(Publication Date)
  • Routledge

    (Publisher)

  2The economics of production

  Plate 2.1 The economics of production

  Synopsis

  This chapter explores the physical production process. It describes the physical relationship between inputs and outputs, and describes the economics of transforming inputs into products; resources into goods. The production function is defined and explained. Next, the effect of time on production is investigated by defining the immediate, short, and long runs. The role of physical production relationships is highlighted, with definitions for constant, increasing, and decreasing returns. Technological change and the law of diminishing marginal returns are defined and explained to enhance understanding of examples from food and agriculture.

  2.1 The production function

  The production of goods and services is a logical place to begin studying the economics of agricultural production. During the production process, firms (also called producers) combine inputs into outputs for sale to consumers. The process can be quite complex, so the next several chapters discuss the production activities undertaken by firms. The discussion then shifts to the behavior of consumers, or households. All of this leads to consideration of the interactions of consumers and producers in markets.

  Production is the process of producing goods and services. This process requires scarce resources. As seen in Chapter 1 , inputs have several different names:

  (2.1)  Inputs = factors = factors of production = resources = A, L, K, and M.

  Quick Quiz 2.1

  What do the letters A, L, K, and M refer to?

  2.1.1 Wheat production in the High Plains of North Dakota

  Consider a wheat producer in North Dakota, a leading wheat-producing state in most years. Let Y = output = wheat, measured in bushels (bu), where f = the mathematical relationship between inputs and output:

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  Wealth, Welfare and the Global Free Market

  A Social Audit of Capitalist Economics

  • Ibrahim Ozer Ertuna(Author)
  • 2016(Publication Date)
  • Gower

    (Publisher)

  Another production factor is technology, which is the pool of all existing knowledge of production. Technology is somewhat similar to investments. Product, process and basic technology grow through investments in research and development. Those who develop technology by investments receive the ownership of their findings. Laws protect some of these ownership rights, such as through the patents obtained. As production factor inputs, these patents provide strong monopoly positions to their owners. These monopolistic positions also violate the assumptions of the perfect competition that is assumed to exist in the markets in economic theory. This has been quite an embarrassment for economic theory. But the economists who are the advocates of free market economies have eliminated the discomfort. Economists have claimed that investments in research and developments were the foundations of the economic advances. To promote the investments in research and development, their output – the patents – had to be protected. In their view, these patents and related rights introduced a new and a different type of competition, a competition which is also serving the interests of society.

  In short, in capitalism, knowledge is not the common property of society, but is the private or corporate property of the capitalist who was instrumental in its creation. It is open for discussion whether the private or corporate ownership of this type of knowledge is serving the interests of the public or not.

  Since we have explained the factors of production and the value added created by production, we may now study the production model of the prevalent economic theory and the results reached by using the model.

  Production Function

  Economic theory defines the production process as a “production function.” There are two kinds of inputs to the production relation: the material inputs and the factor inputs (production factors). The output is the goods or services produced. But the production function is mostly defined in terms of production factors entering the production and the value added created. Therefore, the production function defines the value created by the production factors used. As we have said before, the production factors the economy considers are land, labor and capital. Since the amount of land is assumed to be fixed, the production function in economics defines the value created by labor and capital. As we have mentioned above, technology is an important factor in production. But, since technology develops in time, it is constant at any moment in time. Therefore the production functions are defined under a given technological environment. Economic theory tries to incorporate technological advances into the model when economic development is in concern.11

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  Economic Systems Analysis and Assessment

  Intensive Systems, Organizations,and Enterprises

  • Andrew P. Sage, William B. Rouse(Authors)
  • 2011(Publication Date)
  • Wiley-Interscience

    (Publisher)

  CHAPTER 2 PRODUCTION AND THE THEORY OF THE FIRM 2.1 INTRODUCTION

  We will use the word production or productivity in a very general sense to denote all activities that satisfy consumer demand for goods and services. In the classic use of the term, production is associated with the use of natural resource inputs to produce finished products that are subsequently marketed to consumers through various service efforts. In the initial part of this book, we will be concerned with this classic interpretation. In the later part, we will also consider production of inherently information and knowledge intensive products, such as software. Production is therefore one of the basic components of microeconomic theory. A (classic) firm is a unit that uses natural resource inputs, capital, and labor to produce output goods or services for purchase by consumers. The economic problem faced by a production unit or a firm is that of determining the quantity of output to produce and the amounts of the various input factors to be used in the production process. This will depend, of course, on technological relationships between the prices or costs of input factors, or input supplies, and the price that can be obtained for the output quantity, which is a function of the demand for the product of the firm. This is a problem in resource allocation that involves

  1. the technology of the production process or the production function,

  2. the price, or equivalently costs, of the input resource quantities or input factors such as labor, natural resources, and capital, and

  3. the price of and demand for the output quantity.

  Figure 2.1

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  Economic Lessons from the Transition: The Basic Theory Re-examined

  The Basic Theory Re-examined

  • Daniel R. Kazmer, Michele Konrad(Authors)
  • 2016(Publication Date)
  • Routledge

    (Publisher)

  3 The Factors of Production

  How Incomes Are Determined

  Factors are the inputs into the production process. Traditionally, theory deals with three general categories. Land—including timber, fisheries, and other natural resources—earns rents. Labor earns wages. Capital—meaning here plant and equipment, not money—earns profits. These factors combine to make every product and service sold on the market.

  But how much are these factors worth, and who or what determines the income paid to the factor owners? Historically, this question has been answered both by political theory (capitalism, Marxism-Leninism, socialism) and by economic theory. We will first discuss economic theory, although the political theory relating to factor incomes is also interesting and important.

  Economic theory has developed an elegant and optimal determination of factor incomes, the theory of perfect competition. It applies the same marginal optimizing rules to factor markets that it applies to product markets.

  As in product markets, each factor will be paid the contribution of its marginal product to marginal revenue. Thus, if the last worker hired adds one-tenth of a widget per hour to total output and that last widget sold adds 10 euro to total revenue, then all workers will be paid the value of their marginal revenue product or 10 euro X 1/10 widgets = 1 euro/hour.

  Economic theory then proves that a competitive economy will make optimal use of its factors, from inputs to production, since each factor will move to the productive activity at which it is paid the most, that is, where the value of its marginal revenue product is highest. They will stop moving and be at equilibrium when the values of all their marginal revenue products are equal—when output can no longer be increased by moving inputs around.

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