Question

When a firm wants to expand, how does it decide on how much of each of its inputs to increase? Does it make sense to only increase one of its inputs? What happens when the price of an input rises or falls? Does the firm stop using that input or adjust how much of it is used?

Explain how diminishing marginal product affects the amount of labor your employer or another company uses. What happens to the marginal product of labor if the company purchases more capital or technology? How does that affect the amount of labor used?

Understanding diminishing marginal returns to a factor of production can help you answer these questions.

Answer 1

When a firm wants to expand, how does it decide on how much of each of its inputs to increase?

·         How much of each of its inputs are used depends on the Marginal productivities (MP) of inputs and prices. Input with higher marginal productivity is preferred over the input with low marginal productivity.

Does it make sense to only increase one of its inputs?

·         Yes it makes sense to increase one of its inputs provided there are differences in productivities of both inputs.

What happens when the price of an input rises or falls?

·         Generally, input with low price is preferred over the input with high price.

Does the firm stop using that input or adjust how much of it is used?

·         Firm seeks to adjust the inputs as far as these inputs can be adjusted.

Explain how diminishing marginal product affects the amount of labor your employer or another company uses.

·         Diminishing returns implies falling marginal product (MP). Firm keeps on employing labor until MPL/PL = MPK/PK

What happens to the marginal product of labor if the company purchases more capital or technology? How does that affect the amount of labor used?

·         Marginal product of labor may increase if capital or technology is developed. Or relative importance of labor may increase if more capital is used.