In addition to Lecture 7.

Return to scale

Up to the moment we consider a short run, changing one factor while the other is constant. In the long run, all inputs can be increased or decreased simultaneously. The question is how that affect the output and profit. And there are three possible cases in the long run.

Decreasing returns to scale. If an increase in all inputs in the same proportion k leads to an increase of output of a proportion less than k, we have decreasing returns to scale. Example: If we increase the inputs to a dairy farm (cows, land, barns, feed, labor, everything) by 50% and milk output increases by only 40%, we have decreasing returns to scale in dairy farming. This is also known as "diseconomies of scale," since production is less cheap when the scale is larger.

Constant returns to scale. If an increase in all inputs in the same proportion k leads to an increase of output in the same proportion k, we have constant returns to scale. Example: If we increase the number of machinists and machine tools each by 50%, and the number of standard pieces produced increases also by 50%, then we have constant returns in machinery production.

Increasing returns to scale. If an increase in all inputs in the same proportion k leads to an increase of output of a proportion greater than k, we have increasing returns to scale. Example: If we increase the inputs to a software engineering firm by 50% output and increases by 60%, we have increasing returns to scale in software engineering. (This might occur because in the larger work force, some programmers can concentrate more on particular kinds of programming, and get better at them). This is also known as "economies of scale," since production is cheaper when the scale is larger.

Lecture 8. Costs and Cost Curves

The treatment of costs in Accounting and Economic theory

Fixed and variable costs

Average costs. Marginal Cost

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