Production Function & cost elasticity Maruti Suzuki
Economics Project- Production & Cost Analysis
Automotive Industry - Maruti Suzuki Ltd
Group No 4 :
Akhilendra Tiwari (EM01)
Deepesh Pandey (NMP65)
What is production?
Production is the process that transforms
inputs into output.
Production is the process by which the
resources (input) are transformed into a
different and more useful commodity. Various
inputs are combined in different quantities to
produce various levels of output.
A production function refers to the functional relationship, under the
given technology, between physical rates of input and output of a firm, per
unit of time.
Q = f ( a, b, c…..n T) ; Q = f ( K, L)
Short run refers to a period of time in which supply of certain factor inputs
is fixed or inelastic.
Long run refers to a period of time in which the supply of all the inputs is
elastic, but not enough to permit a change in technology.
Very long period:
Very long period refers to a period of time in which along with all other
factor inputs, the technology of production can also be changed.
Key Terms in Production Analysis
Total product (TP): The total amount of output
resulting from a given production function
Average product(AP): Total product per unit of
given input factor.
Marginal product(MP): The change in total
product per unit change in given input factor.
Managerial Use of Production
Returns to scale
Short run Analysis
Law of diminishing marginal returns
• As more and more units of a variable factor
input are employed, all other input quantities
held constant, the total output may initially
increase at an increasing rate and then at a
constant rate but it will eventually increase at
• During short period, under the given state of
technology and other conditions remaining
unchanged, with the given fixed factors, when
the units of a variable factor are increased in
the production function in order to increase
the TP, the TP initially may rise at an increasing
rate and after a point it tends to increase at a
decreasing rate because the MP of the
variable factor in the beginning may tend to
rise but eventually tend to diminish.
Three stages of production
Stage I: Increasing Returns
TP increases at increasing rate, indicated by
There is intermediary constant stage
between stage I & stage II. TP increases at a
constant rate indicated by constant MP
Stage II: Diminishing Returns
TP continues to increase but at diminishing
rates, indicated by declining MP
Stage III: Negative Returns
TP begins to decline, indicated by negative
Production function with Two
This may be taken either as a short run or a
long run analysis of production process.
Long run analysis : The firm uses only two inputs
and both of them are variable.
Short run analysis : The firm uses more than two
inputs but only two of them are variable and others
Isoquants : An Isoquant is a curve representing
various combinations of two variable inputs that
produce same amount of output. This is also known
as Iso-Product curve, Equal-Product curve or
Production Indifference curve.
Properties of Isoquants
• Downward sloping (negatively inclined)
• Convex to origin (MRTS)
• Higher Isoquant represents larger output
• No two Isoquants intersect
Types of Isoquants
• Smooth, convex isoquants – Continuous
substitutability over a certain range between the
• Linear isoquants-
Perfect substitutability between factors of
• Input-Output isoquants
Strict complimentarily / zero substitutability
between input factors (fixed factor – proportion
Input Output Isoquant
Marginal Rate of Technical Substitution
MRTS is the number of units of an input factor ( ex: K ) that a producer is willing to
sacrifice for an additional unit of another input factor (ex: L) , so as to maintain the
same level of output. (i.e. to remain on the same isoquant.)
On a convex isoquant the MRTS decreases along the isoquant and can become zero.
A zero MRTS determines the minimum quantity of an input which must be used to
produce a given output. Beyond this point an additional employment of one input
will necessitate employing additional units of other input.
A ridge line is the locus of points of
isoquants where MP of input is zero.
• Input Prices & Isocost Line
• Optimal Factor Combination
• Production of given output at given cost
• Production of max. output with the given level of cost
• Changes in firm’s resources & output:Expansion path
• Changes in factor prices and choice of technique
• MPL/ MPk = -(w/r)= MRTS
At this point on the graph the slopes of the isoquant and
the isocost line are the same.
Therefore in order to minimize the cost of producing the
desired level of output, a firm should utilize the
combination of inputs such that the MRTS is equal to the
ratio of input prices.
This is referred to as the cost-minimizing input rule.
Law of Return to Scale
The percentage increase in output when all inputs vary in the same proportion is
known as returns to scale. It obviously relates to greater use of inputs maintaining
the same technique of production.
Three Situations of Returns To Scale
Increasing Returns to Scale – Output increases by a greater proportion than the
increase in input.
Constant Returns to Scale – Output increases in same proportion as increase in
Decreasing Returns to Scale – Output increases in a lesser proportion than the
increase in input.