Chapter four

Production Functions and

Relations
 Production function

Objective
At the end of this session you should able to
1. Define inputs and outputs.
2. mention the basic production decisions in farm business.
3. Explain what production function represent in farm
production.
4. State the possible types of production relations.
___________________________________________________________________________
Farm Management  April 2019
 Production
 An entrepreneur must put together resources (land,
labour, capital) and produce a product people will be
willing and able to purchase.
 Production: It is defined as the creation of utility.
 It involves the processes and methods employed in
transformation of tangible inputs (raw materials,
semifinished goods, or subassemblies) and intangible
inputs (ideas, information, know how) into goods or
services.
 Production function
 A production function describes the technical
relationship that transforms inputs (resources) into
outputs (commodities).
 The relationship between the amount of input required
and the amount of output that can be obtained is
called the production function.
 The Production Function

 The function can be expressed in many ways:

 written form: Y = f(X1, X2, X3,…, Xn)

 Y = output or yield

 X‟s are different inputs that take part in the production of

Y

 examples: yield is a function of stocking density, feed rate

 Note: this written equation/form does not specify the

importance or contribution of inputs to the production
process
 Questions to be Answered

 What is efficient production?

 How is the most profitable amount of input determined?

 How will farm production respond to a change in the price

of an output (fish price)?

 What enterprise combinations will maximize farm profits?

 How much should farmers pay for a “pump”?

 How will technical change affect output?

 Production Function Forms

 The production function can also be shown in either

tabular or graphical form

 Usually picks one variable input and studies the effect on

yield

 “Yield” is also referred to as total physical product or

TPP

 Keeps all other variable inputs “fixed” as well as

traditional fixed inputs

 let‟s look at an example

 Empirical Example
Fertilizer Yield
kg/ha q/hec
20 37
40 139
60 288 1400

Yield (lbs shrimp/ha)

80 469 1200
100 667
1000
120 864
140 1045 800
160 1195 600
180 1296 TPP curve
400
200 1333
200
220 1291
0
0 50 100 150 200 250
Lbs of Fertilizer

Tabular Graphical form

 Forms of production
1. Algebraic Form: Y= f(X).

2. Linear production function, Y= a+bX

3. Quadratic equation, Y = a+bX ± cX2

3. Exponential function,

commonly known as Cobb-Douglas production function.

Y- Dependent variable,
a - constant,
b - Coefficient,
X’s - independent variable
Other characteristics of production
function curves:
1400

Yield (lbs shrimp/ha)

1) the production function is
1200
a continuous curve
1000
2) inputs and outputs are 800
perfectly divisible 600
400
(otherwise, it would look
200
like a series of dots)
0
3) inputs and outputs are 0 50 100 150 200 250
Lbs of Fertilizer
homogenous (prices of
product at one level of Total physical product (TPP) Curve
input are similar to others)
 Types of Production Functions

 Continuous Production Function: A production function

applicable for those inputs which can be split up in to
smaller units. Example: Fertilizers, Seeds, Plant
protection chemicals, Manures, Feeds, etc.

 Discontinuous or discrete Production Function: Such a

function is obtained for resources or work units which
are used or done in whole numbers.

Short Run Production Function (SRPF)

Y= f (X1 | X2, X3,…………..,Xn)
Long Run Production Function (LRPF)
Y = f (X1, X2, X3… Xn).
 Production Relations
Production of farm commodities involves numerous
relationships between resources and products.

Knowledge of these relationships is essential as they

provide the tools or means by which the problems of
production or resource use can be analyzed.
The major production relationships include:
 Factor -Product relationship,
 Factor -Factor relationship and
 Product-Product relationship
Three types of relationship :

i. Factor-product relationship : relationship between

output and one input holding other inputs fixed. ( e.g
between rice and fertilizer)

ii. Factor-factor relationship : relationship between two

inputs (e.g between fertilizer and labor).

iii. Product-product relationship : relationship between two

outputs that may be produced from the available stock of
inputs (e.g between rice and betel leaf).
Factor-Product Relations deal with the production
efficiency of resources.

 The rate at which the factors are transformed in to

products is studied by this relationship.

 The central goal of this relationship is optimization of

production.

 The relationship is known as input-output relationship by

farm management specialists and fertilizer responsive
curve by agronomists.

 Factor-Product relationship guides the producer in

making the decision on ‘how much to produce?’
 The factor - product relationship or the amount of a
resource that should be used and consequently the
amount of output that should be produced is directly
related to the operation of law of diminishing returns.

 This law explains how the amount of product obtained

changes as the amount of one of the resources is
varied keeping other resources fixed.

 It is also known as law of variable proportions or

principle of added costs and added returns
The law of diminishing returns states: An increase in
capital and labor applied in the cultivation of land causes
in general less than proportionate increase in the amount
of produce raised, unless it happens to coincide with the
improvements in the arts of agriculture.
 The law of diminishing returns states that a production
output has a diminishing increase due to the increase in
one input while the other inputs remain fixed.

 Also called the law of diminishing marginal returns, the

principle states that a decrease in the output range can
be observed if a single input is increased over time.

 The word 'diminishing' suggests a reduction, and this

reduction takes place due to the manner in which goods
are produced.
Consider a simple real-life example.
Let's say, you plan to read 30 pages of
a novel in 1 hour.

In this scenario, the inputs are the time,

the number of pages per hour, and your
efficiency in understanding the story.

So now, let's assume you plan to

increase the number of pages. Let us
assume, you start by reading 30 pages
for the first hour, then, 40 pages for
the second hour, and so on.

.
As the hours pass, you may finish the
book sooner than the set target time,
but your efficiency will be reduced,
your understanding of the novel will
probably be incomplete

Thus, by increasing per unit of input,

the output is increasing at a
decreasing rate.
 Why the law of diminishing returns operates in
agriculture?
 The law of diminishing returns is applicable not only to
agriculture but also manufacturing industries.

 In agriculture, nature dominates, so the law of

diminishing returns applies quickly.

 In agriculture, more and more doses of labour and

capital can be employed with the fixed factor (i.e.
land) to produce more.
 Land being fixed cannot be increased or reduced as per
the choice of the agriculturist.
 Thus as more and more variable factors are employed
with the fixed factors, the marginal product falls and
hence the law of diminishing returns apply.

There are several reasons for the operation of law of

diminishing returns in agriculture.
o Excessive dependence on weather
o Limited scope for mechanization
o Soil gets exhausted due to continuous
cultivation
o Cultivation extends to inferior lands
Concepts of product curves
Product curves are upside-down, bowl-shaped curves that
show the relationship between additional inputs, such as
labor or capital, and how much of a good is actually
produced.
Total product (TP): Amount
of product which results from
different quantities of
variable input. Total product
indicates the technical
efficiency of fixed resources.
Average Product (AP): It is
the ratio of total product
to the quantity of input
used in producing that
quantity of product. AP=
Y/X where Y is total
product and X is total
input. Average product
indicates the technical
efficiency of variable
input.
Marginal product (MP):
Additional quantity of output
resulting from an additional
unit of input used. MP =
Change in total product /
Change in input level
(ΔY/ΔX) for discrete
change.
Total Physical Product (TPP):
It is the Total Product (TP)
expressed in terms of
physical units like Kgs,
quintals, etc. Similarly if AP
and MP are expressed in
terms of physical units, they
are called Average Physical
Product (APP) and Marginal
Physical Product (MPP)
respectively.
Total Value Product (TVP): Marginal Value Product
Expression of TPP in terms of (MVP): When MPP is
monetary value is known as Total
expressed in terms of money
Value Product. TVP = TPP*Py or
Y*Py value; it is called Marginal
Value Product. MVP = MPP *
Average Value Product (AVP):
The expression of Average Py or (ΔY/ΔX) * Py or ΔY*
Physical Product in money value. Py / Δ X
AVP = APP * Py
Stage I:
In this stage, the average rate at which variable
input (X) is transformed into product (Y) increases
until it reaches its maximum (i.e., Y/X is at its
maximum). This maximum indicates the end of
Stage I.
 Marginal Physical Product is more than Average Physical
Product and the Average Physical Product increases
throughout zone.

 Marginal Physical Product (MPP) is increasing up to the

point of inflection and then declines.

 Since the marginal Physical Product increases up to the

point of inflection, the Total Physical Product (TPP)
increases at increasing rate.
Inflection point is where the function changes
from increasing at an increasing rate to
increasing at a decreasing rate.
 The inflection point marks the end of increasing
marginal returns and the start of diminishing marginal
returns.
 Finally, the function reaches a maximum and begins to
turn downward.
 Beyond the maximum, increases in the use of the
variable input x1 result in a decrease in total output
(TPP).
 This would occur in an instance where a farmer applied
so much fertilizer that it was actually detrimental to
crop yields.

For Economic decisions Stage I

is irrational zone of production.
Stage II:
 The second zone starts from where the technical
efficiency of variable resource is maximum i.e., APP is
Maximum (MPP=APP)

 The condition Marginal Value Product is equal to

Marginal Factor Cost (MVP=MFC) and Marginal Revenue
is equal to Marginal Cost (MR= MC) exists in this stage

 This zone ends at the point where Total Physical

Product is at maximum or Marginal Physical Product is
zero.
Stage II is rational
zone of production.
Stage III:
This zone starts from where the technical efficiency of
fixed resource is maximum (TPP is Maximum).

Elasticity of production is less than zero (Ep < 0)

Producer should never operate in this zone even

if the resources are available at free of cost.

Stage III is also an area of

irrational production.
Three Regions of Production Function
 Factor-Factor Relations
 This relationship deals with the resource combination and
resource substitution.
 Cost minimization is the goal of factor-factor
relationship. Under factor-factor relationship, output is
kept constant while inputs are varied in quantity.
 Such a relation is explained by the principle of factor
substitution or principle of substitution between inputs.
 Factor-Factor relationship is concerned with the
determination of least cost combination of resources.
The choice indicators are the physical substitution ratio
and price ratio.
 It is expressed algebraically as:
Y = f(X1, X2, / X3, X4… Xn), where we consider two
variable inputs
Concept of Isoquants:
o isoquant is defined as all possible combinations of two
resources (X1 and X2) physically capable of producing
the same quantity of output.

o Isoquants are also known as isoproduct curves or equal

product curves or product indifference curves.

o ‘Iso’ means equal and ‘quant’ means quantity.

 Isoquant Map or Isoproduct Contour

 If a number of isoquants are drawn on one graph it is

known as isoquant map.
 Isoquant map indicates the shape of production surface
which in turn indicates the output response to the
inputs.

Y3= 30
X2
Y2= 20
Y1= 10
O
X1
• The slope of isoquant denotes the marginal rate of technical
substitution (MRTS).
Marginal Rate of Technical Substitution
(MRTS
MRTS refers to the amount by which one resource is
reduced as another resource is increased by one unit.
Or the rate of exchange between some units of X1 and
X2 which are equally preferred.
MRTS can be represented as:
MRTS X1 for X2 = ΔX2/ΔX1
MRTS X1 for X2 = ΔX1/ ΔX2
 Types of factor substitution
1. Fixed Proportion combination of inputs: Under fixed
combination, to produce a given level of output, inputs are
combined together in fixed proportion.

To operate another tractor, normally we need another

driver.
Isoquants are „L‟ shaped.
It is difficult to find examples of
inputs which combine only in fixed
proportions in agriculture.
An approximation to this situation is
provided by tractor and driver
combination.
2. Constant rate of Substitution: For each one unit gain in
one factor, a constant quantity of another factor must be
sacrificed.

When factors substitute at constant rate, isoquants are

linear & negatively sloped.
3. Decreasing Rate of substitution: Every subsequent
increase in the use of one factor in the production
process can replace less and less of the other factor.
 Isocost Line (price line or budget line)

Isocost line defines all possible combinations of two

resources (X1 and X2) which can be purchased with a
given outlay of funds. Isocost line is used in the
concept of optimal input combination in the production
process.
 Characteristics of Isocost line:

As the total outlay increases, the isocost line moves

farther away from the origin.
Isocost line is a straight line because input prices do not
change with the quantity purchased.
The slope of isocost line determined as the ratio of
factor prices.
 Least Cost Combination of inputs

There are innumerable possible combinations of factors

which can be used to produce a particular level of
output.

The problem is to find out a combination of inputs which

cost the least; a cost minimization problem.

There are three methods to find out the least cost

combination of inputs.

These methods are explained below.

1. Simple Arithmetical calculations
2. Algebraic method
3. Graphical Method

X Isocost

LCC

X2
Isoquant
X
O
X1
 Quiz 7%

What might be possible reasons for

negative returns to a factor in Stage
III of production?(2Point)
 2

Draw some isoquants for the production function

F (z1, z2) = z1 + z2 .
1/2 1/2
 3

Which of the following production functions has a diminishing marginal rate of technical
substitution?

 F (z1, z2) = z1 + z2.

 F (z1, z2) = z11/2z21/2.
 F (z1, z2) = z12 + z22.
 4
1. Identify the truthfulness of the following statements. And give a
reason.
I. When the marginal product of labor is falling, the average product
of labor is falling.
II. When the marginal product curve lies above the average product
curve, then average product is rising.
a. Both I and II are true.
b. Both I and II are false.
c. I is true; II is false.
d. I is false; II is true.
 5
Which one of these is false when compared to the relationship between
marginal and average product
a. When average product is increasing in labor, marginal product is
greater than average product. That is, if APL increases in L, then
MPL > APL.
b. When average product is decreasing in labor, marginal product is less
than average product. That is, if APL decreases in L, then MPL < APL.
c. The relationship between MPL and APL is not the same as the
relationship between the marginal of anything and the average of
anything.
d. When average product neither increases nor decreases in labor
because we are at a point at which APL is at a maximum, then
marginal product is equal to average product.
 3. Product-Product Relations
 Product-Product relationship deals with resource allocation
among competing enterprises (individual crop production and
animal rearing).

 Under Product-Product relationship, inputs are kept

constant while products (outputs) are varied.

 This relationship guides the producer in deciding on „What

to produce?‟
 Product-Product relationship is explained by the principle of
product substitution.
 The relationship is concerned with the determination of
optimum combination of production (enterprises).
 3. Product-Product Relations
 The choice indicators are product substitution ratio and
price ratio.

 Algebraically, product-product relation is expressed as:

Y1=f (Y2, Y3… Yn)
 Production Possibility Curve (PPC)
 Production Possibility Curve represents all possible
combinations of two products that could be produced
with a given amounts of inputs.
 It is known as Opportunity Curve because it represents
all production possibilities or opportunities available with
limited resources.

 It is called Isoresouce Curve or Isofactor curve because

each output combination on this curve has the same
resource requirement.

 It is also called Transformation curve as it indicates

the rate of transformation of one product into another.
How to draw Production Possibility Curve

 Production Possibility Curve can be drawn either directly

from production function or from total cost curve.
 Example A farmer has five acres of land and wants to
produce two products namely cotton (Y1) and Maize (Y2).
Assume all other inputs are fixed. Now the farmer has
to decide how much of land input to use for each
product. This implies that amount of land that can be
used to produce Cotton (Y1) depends upon the amount of
land used to produce Maize (Y 2).
 Therefore, Y1= f (Y2)
The allocation of land resource between the two products
and the output from different doses of land input are
presented below

Allocation of Output in
Land in Acres quintals
Y1 Y2 Y1 Y2
0 5 0 60
1 4 8 48
2 3 15 36
3 2 21 24
4 1 26 12
5 0 30 0
Types of Product-Product Relationships or Enterprise
Relationship

Farm commodities bear several physical relationships to one

another. These basic product relationships include:
1) Joint Products:

 such relationship happen when two products are

produced through single production process.
 As a rule the two are combined products.
 Production of one (main product) without the other
(by-product) is not possible.
 The level of production of one decides the level of
production of another.
Types of Product-Product Relationships or Enterprise
Relationship
 Most farm commodities are joint products.
Ex: Wheat and Straw, cattle and manure, beef and hides, mutton and wool
etc.

Y2 A

O
Y1
2. Complementary enterprises:

 Complementarity between two enterprises exists when

Change in the level of production of one enterprise
causes change in the other enterprise in the same
direction.

 Temporarily, the two enterprises do not compete for

resources but contribute to the mutual production by
providing an element of production required by each
other.

 The marginal rate of product substitution is positive (>

0).
2. Complementary enterprises:

 Ex: crops and livestock enterprises.

3) Supplementary enterprises:
 Supplementarity exists between enterprises when
increase or decrease in the output of one product does
not affect the production level of the other product.

 They do not compete for resources but make use of

resources when they are not being utilized by one
enterprise.
4) Competitive enterprises:
 This relationship exists when increase or decrease in the
production of one product affect the production of other
product inversely.

 Two enterprises are competitive in the use of given

resources if output of one can be increased only through
sacrifice in the production of another.
 Marginal rate of product substitution (MRPS)
 Marginal rate of the product substitution refers to the
absolute change in one product associated with a change
by one unit of the competing product.

 The quantity of one product to be sacrificed so as to

gain another product by one unit is given by MRPS.

MRPS = Number of units of replaced product / Number

of units of added product
MRPSY1 for Y2 = ∆Y2/∆Y1
MRPSY2 for Y1 = ∆Y1/∆Y2
 Types of Product Substitution
 When two products are competitive, they substitute
either at constant rate or increasing rate or at
decreasing rate.

1) Constant rate of Substitution:

 For each one unit increase or gain in one product, a

constant quantity of another product must be decreased
or sacrificed.

 When products substitute at constant rate, the

Production Possibility Curve is linear and negatively
sloped.
 Y1 Y2 ∆Y1 ∆Y2 ∆Y2/∆Y1
16 2 - - -
12 4 4 2 0.5
8 6 4 2 0.5
4 8 4 2 0.5
2) Increasing rate of product substitution:

 Each unit increase in the output of one product is

accompanied by larger and larger sacrifice (decrease) in
the level of production of other product.
 Increasing rates of substitution holds true when the
production for each independent commodity is one of
decreasing resource productivity (decreasing returns) and
non-homogeneity in quality of limited resource.
 ∆1Y2/∆1Y1 < ∆2Y2/∆2Y1 < ……. < ∆nY2/∆nY1
Y2 ∆Y1 ∆Y2 ∆Y2/∆Y1
Y1
1 14 - - -
2 11 1 3 3
3 7 1 4 4
4 2 1 5 5

3, Decreasing rate of Product Substitution:

 Each unit increase in the output of one product is

accompanied by lesser and lesser decrease in the
production of another product
Y2 ∆Y1 ∆Y2 ∆Y2/∆Y
Y1
1
1 10 - - -
2 6 1 4 4
3 3 1 3 3
IsoRevenue Line
 Isorevenue line represents all possible combination of two
products which would yield an equal (same) revenue or
income.
 Let R is the revenue from two products Y1 and Y2 and
the prices for both products is given as Py1 and Py2
respectively.
 The Isorevenue equation will be given as:
 R= Y1 * Py1 + Y2 * Py2, the line is linear as long as
prices for both products do not change
IsoRevenue Line
 Characteristics:
 Isorevenue line is a straight line because product prices
do not change with quantity sold.
 As the total revenue increases, the isorevenue line moves
away from the origin
 The slope indicates ratio of product (output) prices. As
long as product prices remain constant, the isorevenue
line showing different total revenues are parallel. But
change in either price will change the slope.
 Determination of optimum combination of products
(Economic decision):
The Economic optimum combination of the two products can be
determined through three different ways:

Algebraic Method:
Graphic Method:
Tabular Method:
Algebraic Method:

a) Compute Marginal Rate of Product Substitution

b) Workout price ratio (PR)

c) Find the combination at a point where substitution

ration (MRPS) is equal to price ratio (PR). This gives us
the Optimum combination of enterprises.
Graphic Method:
 Draw production possibility curve and isorevenue line on
one graph.
 Slope of production possibility curve indicates MRPS and
the slope of isorevenue line indicate price ratio of
products.
 The point of optimum combination of products is at a
point where the isorevenue line is tangent to the
production possibility curve.

Production Possibility Curve

Optimum Combination of products

Y2

Isorevenue Line

O
Y1
Tabular Method:

 Compute total revenue for each possible output

combination and then select that combination of outputs
which yields maximum total revenue.

 This method is useful only when we have few

combinations.

Revenue from Y1 Revenue from Y2

Y1 Y2 Total Revenue
(Py1=50) (Py2=80)
8 2 400 160 560
5 3 250 240 490
6 4 300 320 620
4 5 200 400 600
3 7 150 560 710
Factor – Product Factor – Factor Product – Product
Deals with resource use Deals with resource combination Deals with resource allocation
efficiency and resource substitution among enterprises

Optimization of the production Cost minimization is the goal Profit optimization is the goal
is the goal
Answers the question ‘How Answers the question ‘How to Answers the question ‘What to
much to produce?’ produce?’ produce?’
Considers single variable Inputs or resources varied keeping Output of products are varied
production function the output constant keeping the resource constant

Guides in the determination of Concerned with the determination Helps in the determination of
optimum input to use and of Least cost combination of optimum combination of products
optimum output to produce resources

Price ratios are choice indicator Substitution ratio and Price ratio Substitution ratio and price ratios
are the choice indicators. are choice indicators

Explained by the law of Explained by the principle of Explained by the principle of

diminishing returns factor substitution product substitution
Y=f(X1 | X2, X3 ……Xn) Y = f(X1 X2 / X3, X4 ...Xn) Y1=f(Y2 ,Y3, ……. Yn)