Production with Two Variable Inputs

*  There is relationship between productivity and production.

*  Long run production K& L are variable.

*  Isoquants analyze and compare different combinations of K & L and output



Diminishing Marginal Rate of Substitution

- Reading Isoquant Model

 1)   Assume capital is 3 and labor increases from 0 to 1 to 2 to 3.  

- Notice output increases at decreasing rate (55, 20, 15) illustrating diminishing returns from labor in the short run and long-run.

2)    Assume that the labor is 3 and capital increases from 0 to 1 to 2 to 3.

- Output increases at the decreasing rate (55, 20, 15) because of diminishing returns from capital.

*  Substituting Among Inputs

- Managers want to determine the combination if inputs to use.  

- They should deal with the tradeoff between inputs.

- The slope of each isoquant gives tradeoff between 2 inputs while keeping the output constant.

- The marginal rate(MR) of technical substitution can be given by:

Marginal Rate of Technical Substitution


Observations:

1. Increasing labor in one unit increments from 1 to 5 results in a decreasing MRTS from 1 to 1/2.

2. Diminishing MRTS occurs because of diminishing returns and implies isoquants are convex.