Topic 1: Production Economics

1. Meaning

Production economics is the study of how a farmer chooses and combines limited resources (land, labour, capital and management) to produce goods and services at a profit.

2. Factors of Production

3. Basic Concepts

• Scarcity: resources are limited while wants are unlimited.
• Choice: a farmer must decide what, how and how much to produce.
• Opportunity cost: the value of the next best alternative given up.
• Fixed costs: do not change with output (rent, depreciation, permanent labour, interest on loans).
• Variable costs: change with output (seeds, fertiliser, chemicals, casual labour).
• Total cost = fixed cost + variable cost.

4. Law of Diminishing Returns

When successive units of a variable input are added to a fixed input, the additional (marginal) output eventually decreases.

Example

Stages of Production

1. Stage I: increasing returns; not wise to stop.
2. Stage II: diminishing returns; the best stage for the farmer.
3. Stage III: negative returns; should not be reached.

Assumptions

• At least one input is fixed.
• Technology is constant.
• Units of the variable input are equal in quality.

5. Enterprise Relationships

6. Economies of Scale

Reduced cost per unit as production expands because of:

1. Bulk buying of inputs.
2. Better use of machinery and labour.
3. Access to credit and markets.
4. Spreading fixed costs over more output.

7. Farm Size and Productivity

• Very small farms may fail to use resources fully.
• Very large farms may be hard to manage.
• Choose a size that allows efficient management and profit.