AGEC 2003- CHAPTER 5
What are the properties of isoquants?
-downward slope -cannot cross one another -convex to the origin -isoquants that are -located further upward and to the right represent higher levels of production
What are a producer's three production choices?
1. Factor-product: How much to produce? 2. Factor- Factor: What resource combination to use? 3. Product-Product: What products to produce?
Why is the PPC concave?
1. Law of diminishing returns 2. input suitability- some inputs are better suited for the production of one product that another
What 3 pieces of information is required for an isocost curve?
1. the price of input X1, Px1 2. the price of input X2, Px2 3. the total amount of money to be spent on inputs slope of isocost curve = -(Px1)/(Px2)
What are the two approaches to analyze production
1. understanding the optimal level of output to produce when one variable input changes and all other inputs are held constant 2. understanding the least cost combination of two inputs to use in producing a given level of output given prices of the inputs and total amount of money to spend on the inputs
At least how many inputs are involved for all production processes of a factor-factor relationship?
2
Least-Cost Combination
A combination of two or more resources in a way that the resource cost of producing that level of output is at the minimum
Expansion Path
A line connecting the least cost combination points along the production surface
What does an isoquant convey?
An isoquant conveys all the combinations of the two variable inputs that can be used to produce a given quantity of output
What do isoquants for imperfect substitutes look like?
Convex to the origin
What is the relationship between a variable factor and its product referred to as?
Factor-product relationship
Marginal Rate of Technical Substitution (MRTS)
It is also referred to as marginal rate of substitution (MRS) which means that the rate at which one resource can be substituted for another without changing the output
Marginal Rate of Substitution (MRPS)
It is shown by the slope of the production possibilities curve. Also, it shows the opportunity cost of producing more of either product.
Describe factor-factor relationship
It is when a producer faces the decision of varying multiple inputs/resources to produce a given output.
What does the Marginal Rate of Product Substitution (MRPS) measure?
It measures the differing rates at which either product will replace (substitute for) the other along the production possibilities cure MRPSy1y2= the change of Y2 over the change of Y1
What does the Marginal Rate of Substitution show?
It shoes the rate that one resource can eb substituted for another without changing the level of output. The measure of the slope of the isoquant.
What does PPC/PPF show?
It shows all possible combination of two products that can be produced given the set of resources in the firm's control
What is an isorevenue line?
It shows all possible combinations of two products sold that will bring the same total revenue slopeIR= -(Py1/ Py2)
What does the expansion path show?
It shows the revenue (and profit) maximizing proportions of Y1 as the firm expands or contracts
Ridge Line
Line on a production surface that connects all points of zero marginal physical product for each of two variable inputs as the other is held constant at different levels
How can the MRTS be rearranged?
MPPx1 over Px1 = MPPx2 over Px2
For inputs that are substitutes, the _______ as one moves from greater use of one input to greater use of the other input
MRTS changes
A firm will maximize profits by _____.
Producing that combination of products where the isorevenue line is tangent to its production possibilities curve.
Perfect Complements
Resources that must be used in a given ratio in order to produce a product
Perfect Substitutes
Resources that substitute for one another in production at a constant rate
Imperfect Substitutes
Resources whose marginal rate of substitution changes as their proportions are changed, ceteris paribus
What do isoquants for perfect complements look like?
Right angle
Isorevenue Line (Review)
Shows all combinations of products sold that bring the same total revenue
Production Possibilities Curve
Shows all combinations of products that can be produced with a given set of resources
Isorevenue Line
Shows all of the combinations of products sold that will produce the same total revenue
Production Possibilities Curve (Review)
Shows all of the combinations of products that a firm can produce given its resources and technology
An isoproduct contour (isoquant)
Shows different combinations of inputs that will produce the same quantity of output
Isocost line
Shows the different combinations of resources that can be bought with a certain amount of money
Least Cost Combination (review)
Shows the least cost combination of inputs that is determined at the point where the isocost line is tangent to an isoquant. MRSx1x2 = change X2/change X1 = Px1/Px2
Isocost Line
Shows the various combinations of resources that can be purchased with a given dollar amount
Isoquant
Shows various combinations of inputs that can produce a given amount of output or product
What do isoquants for perfect substitutes look like?
Straight lines
Resource Substitution
The ability of resources to substitute for one another in producing goods and services
Factor-Product Relationship
The functional relationship between a factor of production and its product
TPP Curve
The graphical representation of the one variable input production function
Isoquant graph
The graphical representation of the two variable input production function. It is also the graphical equivalent in production economics to what the indifference curve is to consumption economics.
What happens if you increase the use of one input while holding the other input constant?
The increase in output is equal to the Marginal physical Product (MPP) of that input multiplied by the magnitude change of the increased input the change in Y = MPPx1 * the change in X1
Isocost Curve
The isocost line is the production analog to the budget line in the consumer model. The isocost curve identifies all the combinations of the two given inputs that can be afforded to produce a given level output
What else can be used to explain the shape of isoquants?
The law of diminishing returns
Least Cost Combination
The least cost combination occurs where the isoquant is tangent to the isocost line LCC= MRTSx1x2=the change in X2 over the change in X1
Describe optimizing output
The optimal combination of the two products to produce (this is the level that maximizes profits) is to produce where the marginal rate of production substitution is equal to the ratio of the output prices the change of Y2/ the change of Y1= Py1/Py2= MPPy2/MPPy1 -ratio of the prices of the two outputs is equal to the slope of the isorevenue line
Production Surface
The product surface projected for a family of isoquants showing all of the different output quantities resulting from using different quantities and proportions of two variable inputs
Marginal Rate of Substitution (MRS)
The rate at which one good (or resource) can be substituted for another at the margin without changing satisfaction (or output)
Marginal Rate of Product Substitution (MRPS)
The rate that one product substitutes for another, measured along a production possibilities curve
Product-Product Relationship
The relationship between a firm's enterprises or products
Factor-Factor Relationship
The relationship between two factors or inputs used in production
Equation for MRTSx1x2
To minimize the cost of producing a given level of output (or to maximize output from a given cost outlay) we equate the MRTS to the price ratio: MRTSx1x2= the change in X2 over the Change in X1= Px1 over Px2 -the rate of substitution between the two inputs is equivalent of the ration of princes of the two inputs
What happens if we reduce the input X2 without increasing X1?
We reduce the level of output by the marginal physical product (MPP) of the reduced input multiplied by the magnitude change of that reduced input. the change in Y = MPPx2 * the change in X2
Describe product-product relationship
When an enterprise (business) or what combination of enterprise will be the most profitable for the firm
Constant Returns to Scale
When output increases in direct (constant) proportion to the increase in inputs
Mathematical Two Variable Production Function
Y=f(X1,X2)
What happens when we downward and to the right along the isoquant?
You must compensate for the lost of the use of input X2 in production with additional use of the input X1 in order to produce the same level of output (that is, stay on the same isoquant)
What kind of slope does an isocost curve have?
a negative slope
The expansion path connects the LCC points_____.
along the production surface. It shows how input proportions change as output expands
How do you construct an isocost line?
by the total amount of money to be spent on inputs divided by the price of te X2,Px2 and the total amount of money to be spend on inputs divided by the price of the input X1,Px1 respectively
The profit maximizing size (scale) of a firm is ____.
determined along the expansion path
The firm can produce any combination of products on the PPC, or anything within the boundaries of the PPC. What is the area inside of and including the boundary called?
feasible set
What is the shape of the Production Possibilities Curve (PPC)?
it is concave to the origin
The isoquants have a ________.
negative slope
The expansion path connects the most ______.
profitable points for each of a number of PPCs
Production Function
provides the basis for the firm's cost
Equation for MRTS
the change in x2 over the change in x1
What can we identify with the given combination of two goods that can be produced for a given enterprise and the prices per unit of the goods sold?
the optimal levels of production of the two goods to maximize profit
What happens when we move along an isoquant?
the reduced level of output resulting from decreased use of X2 is compensated by increased output from the increased use of X1. MPPx2 * the change in X2= MPPx1 * the change in X1
The value of the MRTS is ________.
the slope of the isoquant at any point along the isoquants
What happens at the LCC?
the slopes of the isoquant and isocost line are equal
