Theory of Production - Unit 3 (AQA)

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  • Created on: 22-01-13 19:30
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Economics ­ The Theory of Production (10.12.12)
The Theory of Production
Production in the short run:
In the short-run, at least one factor of production will be fixed (e.g. size of premises)
For the firm to increase output they will take on extra workers up to a point, that each
worker will add more to the total output than the previous workers.
If the next worker is adding more than the previous workers, we will be able to see that
marginal product is increasing (Increasing Marginal Returns) ­ "Increasing the amount of
the variable factor, increases output more than proportionately"
We make an assumption here that all of the workers are equally capable; in reality they will
not all be of the same quality
There will become a point when the premises cannot accommodate extra workers ­ their
presence will reduce the output of the existing workers ­ Marginal product will decrease
(Diminishing Marginal Returns) ­ "Increasing the amount of the variable factor, increases
output less than proportionately"
Type of Costs:
Fixed Costs:
Do not vary with output in the short run
They have to be paid whether the firm produces nothing or runs the plant 24 hours
per day
Examples = rents, salaries of permanent employees
Variable Costs:
Vary directly with output
Increase production = Increase in variable costs
Semi-Variable Costs:
Contain a fixed & variable element
Example = Electricity Bill (Fixed = standing charge for supplying service, Variable =
amount of actual electricity used)

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Relationships ­ ATC, AVC, AFC, MC:
AFC fall as output rises ­ The fall is very rapid as fixed cost is spread over more units ­
this will reduce the cost of producing the extra unit
The falling AFC pull the MC curve downwards (Cost of producing an additional unit of
output has reduced)
The firm will be taking on labour ­ at some point, the falling AFC will be unable to
compensate for the increased labour costs AVC and so MC will begin to…read more

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Production in the long run:
Firms can temporarily overcome the problem of diminishing returns ­ it can vary its fixed
factors e.g.…read more

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The Minimum Efficient Scale:
When a firm has grown large enough to have exploited all of the benefits of internal
economies of scale it has reached the minimum efficiency scale (The lowest point of the
LRATC curve)
There is unlikely to be a single level of output whereby costs are minimal and so the
`Constant Returns Scale' demonstrates that a small range of outputs will be at a level of
minimal LRATC
Firms that are unable to reach the minimum efficient scale are unlikely to…read more



This is a 4 page summary of the main concepts of costs, revenue, economies of scale and efficiency. Quite concise but explains it well.

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