Returns to scale

Returns to scale

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   It refersto manner of change in output cost by the increase in all the input simultaneously and in the same proportion.  Returns refers to “change in physical output”  Scale refers to “quantity of input employed”  Change in scale means that all factors of production are increased or decreased in same proportion. 2
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   Returns toscale may be: -increasing returns to scale -constant returns to scale -decreasing returns to scale 3
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   When percentage(%) increase in all factor inputs causes proportionately greater increase in output it is (IRS)  It is also known as stage of decreasing cost  This stage occurs due to economies of large scale production  When a firm expands, increasing IRS obtained in beginning 4
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   If theamount of inputs are doubled and the output increases by more than double, it is said to be an increasing returns to scale.  When there is an increase in the scale of production, it leads to lower average cost per unit produced as the firm enjoys economies of scale. 5
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   More divisionof labor  Use of specialized machines 6
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   When percentageincrease in all factor inputs causes equal proportionate increase in output  It is known as “linear homogeneous production function”  CRS operates when firm has achieved the point of maximum capacity  So this stage occurs due to combine effect of economies and diseconomies of scale 7
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   If afirm doubles inputs, it doubles output. In case, it triples output. The constant scale of production has no effect on average cost per unit produced. 8
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   When percentageincrease in all factor inputs causes proportionately less increase in output  Generally there is a level after which output increases in a smaller proportion as compare to increase in the amount of factor inputs 9
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   DRS occurs,if firm keeps on increasing the inputs even after the stage of optimum capacity  This stage also known as stage of increasing cost and occurs because of economies of large scale production 10
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   If afirm increases inputs by 100% but the output decreases by less than 100%, the firm is said to exhibit decreasing returns to scale.  In case of decreasing returns to scale, the firm faces diseconomies of scale.  The firm's scale of production leads to higher average cost per unit produced 11
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   Difficulty incoordination and management  Technical diseconomies  Limited availability of factors of production 12
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   The figureshows that when a firm uses one unit of labour and one unit of capital, point a, it produces 1 unit of quantity as is shown on the q = 1 isoquant.  When the firm doubles its outputs by using 2 units of labour and 2 units of capital, it produces more than double from q = 1 to q = 3.  So the production function has increasing returns to scale in this range. Another output from quantity 3 to quantity 6.  At the last doubling point c to point d, the production function has decreasing returns to scale.  The doubling of output from 4 units of input, causes output to increase from 6 to 8 units increases of two units only. 14
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