1.2.5.1.5 Stages in production and the law of variable proportions/the law of diminishing returns

The stages in production and the law of variable proportions, also known as the law of diminishing returns, are fundamental concepts in the theory of production. They describe how changes in the quantity of a variable input, while keeping other inputs constant, affect the level of output.

1. Stages in Production: In the short run, as a firm increases the quantity of a variable input (usually labor) while keeping other inputs fixed (e.g., capital), the level of output changes, leading to three distinct stages in production:

a. Stage of Increasing Returns (Stage I): In this stage, as more units of the variable input are added, the total product (output) increases at an increasing rate. The marginal product of the variable input is positive and rising. This occurs because the fixed inputs are not fully utilized, and as more labor is added, the specialization and division of labor increase, leading to higher productivity.

b. Stage of Diminishing Returns (Stage II): In this stage, the total product continues to increase, but at a decreasing rate. The marginal product of the variable input is positive but declining. While the fixed inputs remain constant, they start to become relatively less productive compared to the increasing variable input. The additional output gained from each additional unit of the variable input diminishes, leading to diminishing marginal returns.

c. Stage of Negative Returns (Stage III): In this stage, the total product starts to decrease. The marginal product of the variable input becomes negative. The fixed inputs become overwhelmed by the increasing variable input, leading to inefficiencies, congestion, and diminishing productivity. The negative returns result in a decline in total output.

2. Law of Variable Proportions/The Law of Diminishing Returns: The law of variable proportions, also known as the law of diminishing returns, states that as a firm increases the quantity of a variable input (e.g., labor) while keeping other inputs constant, the marginal product of the variable input will eventually diminish. In other words, as more units of the variable input are added, the additional output gained from each additional unit will decrease.

The law of diminishing returns is based on the principle of diminishing marginal productivity, which occurs due to the limited capacity of the fixed inputs to efficiently use the increasing variable input. This leads to the decline in the overall productivity of the variable input, resulting in diminishing returns and ultimately negative returns in the long run.

The law of diminishing returns has significant implications for firms’ production decisions, cost management, and resource allocation. It highlights the importance of finding the optimal level of inputs to maximize output efficiently and avoid the inefficiencies associated with overutilization of resources. By understanding the stages in production and the law of variable proportions, firms can make informed decisions to achieve productivity and profitability in the short run and long run.