Question

Explain Law of Diminishing Returns with the help of an example and diagram.

Hint:

This law is about short-run production. Don't confuse it with "returns to scale," which deals with the long run when all inputs are variable.

Answer 1

Step 1: Statement of the Law:
The Law of Diminishing Returns, also known as the Law of Variable Proportions, states that in the short run, as we add more and more units of a variable input (like labor) to a fixed amount of other inputs (like land or capital), a point will eventually be reached where the marginal product of the variable input will start to decline.

Step 2: Explanation with an Example (Schedule):
Consider a farmer who has a fixed plot of land (1 acre) and applies more units of labor to cultivate it.\[\begin{array}{|c|c|c|l|} \hline Units of Labor & Total Product (TP) & Marginal Product (MP) & Stage of Production \\ \hline \text{1} & \text{10} & \text{10} & \text{\_} \\ \hline \text{2} & \text{24} & \text{14} & \text{Stage I: Increasing Returns} \\ \hline \hline \text{3} & \text{36} & \text{12} & \text{\_} \\ \hline \text{4} & \text{44} & \text{8} & \text{Stage II: Diminishing Returns} \\ \hline \text{5} & \text{48} & \text{4} & \text{\_} \\ \hline \text{6} & \text{48} & \text{0} & \text{\_} \\ \hline \hline \text{7} & \text{46} & \text{-2} & \text{Stage III: Negative Returns} \\ \hline \end{array}\]Initially, adding more labor leads to increasing marginal product (increasing returns). After the 2nd laborer, the marginal product starts to fall (diminishing returns). After the 6th laborer, total product declines, and marginal product becomes negative (negative returns).

Step 3: Explanation with Diagram:
\begin{center} \begin{tikzpicture}[scale=0.9] % Upper panel for TP \begin{scope}[yshift=4cm] \draw[->] (0,0) -- (8,0) node[right] {Units of Labor}; \draw[->] (0,0) -- (0,5) node[above] {Total Product (TP)}; \draw[thick, color=blue] (0,0) .. controls (1,2) and (2.5,4) .. (6,4.8) .. controls (6.5,4.7) and (7,4.6) .. (7.5,4.4); \node[above] at (4, 4.6) {TP}; \draw[dashed] (6, 4.8) -- (6, -2); \node at (6, 4.8) [circle,fill,inner sep=1.5pt]{}; \end{scope} % Lower panel for MP \begin{scope}[yshift=0cm] \draw[->] (0,0) -- (8,0) node[right] {Units of Labor}; \draw[->] (0,-2.5) -- (0,3) node[above] {Marginal Product (MP)}; \draw[thick, color=red] (0,0) .. controls (1,2) and (2,2.5) .. (3,1.5) .. controls (4,0.5) and (5,0.1) .. (6,0) .. controls (6.5,-0.2) and (7,-1) .. (7.5, -1.5); \node[above] at (4, 1.5) {MP}; \node at (6, 0) [circle,fill,inner sep=1.5pt]{}; \end{scope} \end{tikzpicture} \end{center} The diagram shows the TP curve first rising at an increasing rate, then at a diminishing rate, reaching a maximum, and finally falling. The MP curve first rises, reaches a maximum, then falls, becomes zero (where TP is maximum), and finally becomes negative. The diminishing returns stage (Stage II) begins when the MP curve starts to decline.

Step 4: Final Answer:
The Law of Diminishing Returns states that adding more of a variable input to a fixed input will eventually result in a decline in the marginal product of the variable input. This is a fundamental concept in short-run production.