Law of Variable Proportions/Law of Diminishing Returns

Law of Variable Proportions/Law of Diminishing ReturnsLaw of variable proportions occupies an important place in economic theory. This law examines the production function with one factor variable, keeping the quantities of other factors fixed. In other words, it refers to the input-output relation when output is increased by varying the quantity of one input.Statement of Law of Variable ProportionsWhen the quantity of one factor is varied, keeping the quantity of other factors constant, the proportion between the variable factor and the fixed factor is altered; the ratio of the variable factor to that of the fixed factor goes on increasing as the quantity of the variable factor is increased but after a certain point, first the marginal then the average product and then total product of that factor will diminish.

Assumptions of the Law:1. First, the state of technology is assumed to be given and unchanged/constant. If there is improvement in the technology, then marginal and average products may rise instead of diminishing.2.Secondly, there must be some inputs whose quantity is kept fixed. This is one of the ways by which we can alter the factor proportions and know its effect on output. This law does not apply in case all factors are proportionately varied.3.Thirdly the law is based upon the possibility of varying the proportions in which the various factors can be combined to produce a product. The law does not apply to those cases where the factors must be used in fixed proportions to yield a product.4.The law of variable proportion applies only in short period.5.Labour is homogeneous.6.Physical input and output:- The law studies the relationship of physical input and output only i.e impact of change in, one input on output keeping all factors fixed. It does not give any details of input and output in monetary terms.

Three Stages of Law of Variable Proportion :Increasing returnDiminishing returnNegative return Assume that there is a given fixed amount of land, with which more units of the variable factor labour, is used to produce agricultural output. 1. Increasing return : With a given fixed quantity of land, as a farmer raisesthe total product increases at an increasing rateMarginal product also rises and reaches its maximum and then start falling but still it is more than average product.Average product throughout rises though the rise is less than marginal product.

REASONS OF INCREASING RETURNS :1. Fixed factor is indivisible /inseparable. 2. Fixed factor is relatively more than the variable factor.3. Factor is unsatisfactory/imperfect substitutes of each other. 4. Combination of fixed factors and variable factors moves towards the best (best proportion). 5. As more of variable factor is applied fixed factor gets properly utilised. Diminishing return : When to the fixed factor, doses of variable factor is added one by one, firm gets diminishing returns TP : the total product continues to increase at a diminishing rate until it reaches its maximum point where the second stage ends. MP AND AP : In this stage both the marginal product and the average product of the variable factor are diminishing but remain positive.At the end of the second stage, marginal product of the variable factor is zero .

THE REASONS FOR DIMINISHING RETURNS :Fixed factor is overutilised. It is inadequate relation to variable factor.Factors are imperfect substitutes of each other. The combination of fixed factor and variable factor is disturbed.

Stage of Negative Returns: In stage 3 with the increase in the variable factor the total product declines and therefore the total product curve TP slopes downward.marginal product of the variable factor is negative and the marginal product curve goes below the X-axis. In this stage the variable factor is too much relative to the fixed factor. This stage is called the stage of negative returns,average product goes on falling but does not become negative like the marginal product curve.The reasons for NEGATIVE MARGINAL RETURNS:1. Overcrowding of variable factor disturbs the smooth production schedules.2. Addition of variable factor affects the efficiency of earlier factors of production.Law of Variable ProportionsNo of Workers LTotal Product (TPl)Marginal Product (MPl )Average Product (APl )Stages of Returns1242424I)Increasing Returns27248363138664642167854530084606384846474627866II)Diminishing Returns

852866669576486410600246011594-654III) Negative Returns

12552-424612Law of Variable ProportionsPanel A13LabourTotal productTPl TP rises at an increasing rate till the employment of the 5th worker.Beyond the 6th worker until 10th worker TP increases but rate of increase begins to fallTP Decrease from 11th worker onwards.This shows Law of Diminishing Marginal returnsLaw of Variable Proportions Panel B14labour APLMPLMPLPanel B represents Marginal and average productivity curves of labourAP/MPLaw of Variable ProportionsSignificance of Law of Diminishing Marginal Returns: Empirical law, frequently observed in various production activitiesParticularly in agriculture where natural factors (say land), which play an important role, are limited. Helps manager in identifying rational and irrational stages of operation

15Law of Variable ProportionsIt provides answers to questions such as: a) How much to produce? b) What number of workers (and other variable factors) to employ in order to maximize output In our example, firm should employ a minimum of 7 workers and maximum of 10 workers (where TP is still rising)

16Law of Variable ProportionsStage III has very high L-K ratio- as a result, additional workers not only prove unproductive but also cause a decline in TPl.In Stage I capital is presumably under-utilised. So a firm operating in Stage I has to increase L and that in Stage III has to decrease labour.

17