Both
economists and accountants make an important distinction between production
factors, based on the way they can be varied as the level of production
changes. To take a simple example, suppose you own a successful shop. Initially
you do not employ anyone but soon find you do not have time to do everything,
and are losing sales because you cannot serve more than one customer at a time.
So, you employ an assistant. This gives you more time and flexibility and
allows you to buy better stock; your monthly sales more than double. You employ
another assistant and again your sales increase. You realize, however, that you
cannot go on increasing the number of assistants since space in your shop is
limited and you can only meet demand in a small local market. You begin to
think about opening another shop in another area.
This
example helps to illustrate the difference between a production factor which
you can vary as the level of production varies, i.e. a variable factor, and a
factor which you can only move in steps at intervals when production levels
change, i.e. the fixed factor. In our example the variable factor is the
assistants (labour) and the fixed factor is the shop, i.e. land (space) and
capital (the shop building and equipment).
In
most examples at this level of study it is usual to regard capital as a fixed
factor and labour as a variable factor. Although it is not possible to have a
fraction of a worker we can
think in terms of worker-hours and recognize that many workers are prepared to
vary the number of hours worked per week. It is more difficult to have half a
shop and even if a shop is rented rather than bought, tenancies are usually for
fixed periods. It is more difficult to reduce the amount of fixed factors
employed than the variable factors. When a machine or piece of equipment is
bought it can only be sold at a considerable financial loss.
This
distinction between fixed and variable production factors is very important. It
also gives us an important distinction in time. When analyzing production,
economists distinguish between the short run and the long run. By short run
they mean that period during which at least one production factor, usually
capital, is fixed, e.g. one shop, one factory, one passenger coach. By long run
they mean that period when it is possible to vary all the factors of production,
e.g. increase the number of shops, factories or passenger coaches. Sometimes
you may find the short and long run referred to as short and long term. This is
not strictly correct, but the difference in meaning is slight and not important
at this stage of study.
Production
Function
We
can now summaries the main implications of our recognition of factors of production. We can say that to produce most goods and services we need some
combination of land, capital and labour. At present we can leave out enterprise
as this is difficult to quantify. In slightly more formal language we say that
production is a function of land, capital and labour. Using the symbols Q for
production, S for land, K for capital and L for labour,
this
allows us, if we wish, to use the mathematical expression:
Q
= f (S, K, L)
For
further simplicity we can use the assumption of ceteris paribus, which was
explained in the introduction to this unit: we can hold constant the role of
two factors of production, land and capital, and concentrate on labour as the
only variable input into the production process. That is, as previously noted,
we can regard capital and land as fixed and labour as a variable factor.
Total
Product
In
this section we examine what happens when a firm increases production in the
short run, when the firm's available capital and land is fixed and when the
only variable factor into the production process is labour. Once again we can
take a simple example of a small firm which has a single factory building
(land), and a fixed number of machines (capital), installed in its factory. The
only way the firm can increase output in the short run is to increase its use
of labour. For simplicity we can use the term worker as a unit of labour, but
you may wish to regard a worker as a block of worker-hours which can be varied
to meet the needs of the business.
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