NCERT Solutions for Class 12 Microeconomics Chapter 3: Production and Costs

The relationship between the cost of production and the total output is known as the cost function.

The Average Product of an input is the Total Product divided by the total amount of the variable input used to produce it.

The marginal product of an input is the improvement in output that is achieved by using an additional unit of input.

The production function is defined as the relationship between physical inputs used in production and the corresponding physical output. This shows how many units of inputs produce the maximum output. It can be represented as

Qx = f (L, K)

Where Qx = Total Physical Output

L= Total physical labour employed

K= Total capital employed

It refers to the total volume of goods and services that are produced in a firm with the provided input during a specific time period.

This can be explained with the help of the law of variable proportions. As per this law, when only one variable factor input is allowed to increase with all other inputs kept constant, the following changes are observed:

1. With an increase in Marginal Product (MP), there is a corresponding increase in Total Product (TP). A convex curve is obtained with the effect till the MP curve is at its maximum.

2. When MP declines but is positive, then TP increases with a decline in rate, giving the total product a concave shape.

3. When MP is at zero, the TP is at maximum

4. When MP becomes negative, the TP falls.

The long run is a period of time in which the producer can change all the variables involved in the production, like building, machine etc. The short-run is a period of time in which the producer can only make limited changes in the production process. It is the period in which at least one factor of production is fixed while others can be changed or improved. The examples of short run can be farmers having a fixed piece of land.

According to the law of diminishing marginal product, there will initially be an increase in the total amount of production when one of the factors is increased while keeping the others constant.

Eventually, this strategy would not keep increasing production. For example, think of a factory where the machinery is a factor of production. Increasing the number of machines would initially increase production. But if the company keeps increasing the number of machines without correspondingly hiring new workers to operate them, the productivity will decrease.

The Law of Variable Proportions is also called the Law of Diminishing Returns.

According to the law, when one of the inputs involved in the production is changed while keeping the other inputs constant, there will be a point after which the output per unit of that input will start to decrease. This law is theorised under certain assumptions.

i) The technology should remain the same.

ii) The possibility that the factors of production can be changed within a short period of time.

iii) Some inputs should be kept constant

Constant returns to scale is achieved when the change in the factors of production matches with the changes in the total output. This means that the efforts of the producer to improve production yield appropriate and equivalent returns.

Increasing returns to scale is achieved when the change in the factors of production yields more than the proportionate changes in the total output. This means that the company has improved its productivity.

Decreasing returns to scale is when the change in the factors of production results in a decrease in the changes in the total output. This is an indication that the changes have proved to be detrimental to productivity instead of increasing productivity

A fixed cost is a cost that does not change in relation to the total number of goods and services produced by the company. On the other hand, a variable cost is a cost that changes in relation to the total number of goods and services produced by the company.

Total Fixed Cost: The cost incurred by a company in acquiring fixed production factors like buildings, cost of machinery and depreciation.

Total Variable Cost: Cost incurred by a company on variable production factors like wages and fuel charges.

Total Cost: The total cost of the firm is the total fixed cost and total variable cost put together. It is the actual cost incurred by the company when producing a given amount of output.

The average fixed cost is the fixed cost per unit of output produced.

The average variable cost is the variable cost per unit of output produced.

The average cost of a firm is the average fixed cost and average variable cost put together.

The fixed cost cannot be set in the long run. Fixed costs can only be set for the short run. Since all factors of production and inputs can change in the long run, a fixed cost cannot be determined for the output.

The average fixed cost resembles a rectangular hyperbola. This is because of the constantly increasing output and the fixed cost, which remains the same at every point.

The curves of the short run marginal cost, the average variable cost and the short run average cost are all U-shaped.

It can be explained by the following points:

1. When AVC (Average Variable Cost) falls, SMC (Short Marginal Curve) is lesser than AVC.

2. When AVC rises, SMC becomes more than AVC

3. When AVC is constant and is minimum, SMC is equal to AVC.

Therefore, the SMC curve cuts the AVC curve at the minimum point.

This can be explained with the following points:

1. When SAC falls, SMC is below the SAC.

2. When SAC rises, SMC is above SAC.

Therefore, the SMC curve cuts the SAC curve at its minimum point because at that point, SMC = SAC

The Marginal Curve (MC) is U-shaped as per the Law of Variable Proportion.

This can be explained as follows:

1. Shape of the Marginal Cost Curve (MC) depends on the Total Variable Cost (TVC).

2. As TVC increases at a diminishing rate, the total product increases at an increasing rate, which creates a gap in the curve leading to the fall of MC.

3. Now, as TVC increases at an increasing rate and the total product increases at a diminishing rate, making the marginal cost increase and rise upward.

4. The increasing returns and then constant returns, along with the rise in decreasing returns, make it appear like the letter U from the English alphabet; hence, it is named so.

The Long Run Marginal Cost (LMC) and Long Run Average Cost (LAC) are U-shaped, and the reason behind this is the law of returns to scale. As per this law, a company or a firm undergoes three stages in production which are IRS (Increasing Return to Scale), CRS (Constant Return to Scale) and DRS (Diminishing Return to Scale). The curve becomes U-Shaped due to the falling of LAC due to economies of scale (IRS); it attains constant output at the CRS level, and finally, if the firm experiences diseconomies of scale and if it is continuing production after this stage, it will see a rise or DRS.

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