Production Economists

Production Economists

Production Economists have shown in the theory of production that producers tend to solve the two problems by expanding their hire of factors of production to the point at which the revenue gained from selling the output of an additional or 'marginal' factor (its 'marginal revenue product') is just equal to the additional or 'marginal' cost of hiring it: this is the output at which the marginal cost of output is equal to its marginal revenue. A clothing manufacturer, for example, will tend to increase output by using machines and labour so long as the revenue from the output of an additional machine or worker is larger Than the extra cost, but will stop using more machines at the point where an additional machine costing £1,000 a year to run produces only £1,000 worth of clothing, and similarly will stop hiring more labour when an additional man at £800 a year adds only £800 to the value of output. A stage will be reached in every organization when further additions of equipment and labour will make successively smaller contributions to total output, as the factory approaches the physical limit of its capacity set by the size of its management, administration and its factory space (diminishing returns). A loss will be made on marginal output (and total profits thus decreased) if output is pushed to the point at which the additional cost of production is higher than the value of the additional output. The marginal loss indicates that output has been carried too far, and that the marginal equipment and labour could be used more profitably elsewhere to the benefit of the community. On the other hand, any level of output short of the point at which marginal revenue equals marginal cost will not be in the public interest either, since it means that the value placed by consumers on the additional output is higher than the cost of making it When consumers are prepared to pay more for something than its full cost of production, there is a strong indication that output should be increased. Only when output has reached the point when the revenue from each additional factor of production is equal to the additional cost will production have reached the point which best satisfies the interests of consumers.

At this stage the producer will also have solved the problem of combining the factors of production to produce the output as cheaply as possible. In deciding how to produce, each manufacturer usually has some choice between different amounts of machinery and manual labour, between automatic and semi-automatic machinery, and so on. The rule for selecting the least expensive combination is to continue to substitute a cheaper for a more expensive factor of production until no more cost reductions can be made by further substitution. If, for example, a fully automatic machine costing £500 a year to run can produce £17, 500 worth of goods and a man at £800 a year can produce Lx,600 worth of identical goods, it will be cheaper t0 substitute machines for labour since every Li invested on machines will yield (1,500 divided by 500), whereas every £' spent on hiring labour yields only £2 (x,600 divided by 500). Substitution will continue to lower costs until the yield of a pound spent on machines is no larger than that spent on labour. Further, to maximize profits, the hue of both men and machines will be increased as long as extensions of output increase profits. Both the cost-minimizing and the profit-maximizing will be satisfied when the value of output of each marginal factor is equal to its marginal cost. If at the margin an additional machine costing £1,000 adds £1,000 to output and a man at £800 produces just 1800 worth of goods, the value of output per pound invested in both is the same.

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