Laws Of Returns To Scale

Economics

In the long- run, there is no fixed
factor; all factors are variable. The laws of returns to scale explain the relationship between output and the scale of inputs in the long-run when all the inputs are increased in the same proportion.

Assumptions:
Laws of Returns to Scale are based on the
following assumptions.
*All the factors of production (such as land, labour and capital) are variable but organization is fixed.
*There is no change in technology.
*There is perfect competition in the market.
*Outputs or returns are measured in physical quantities.

Three Phases of Returns to Scale:

(1) Increasing Returns to Scale:
In this case if all inputs are increased
by one per cent, output increase by more than one per cent.
(2) Constant Returns to Scale:
In this case if all inputs are increased
by one per cen, output increases exactly by one per cent.
(3) Diminishing Returns to Scale:
In this case if all inputs are increased
by one per cent, output increases by less than one per cent.

Diagrammatic Illustration:
The three laws of returns to scale can be explained with the help of the diagram
below.
In the diagram 3.2, the movement
from point a to point b represents

increasing returns to scale. Because,between these two points output has doubled, but output has tripled.The law of constant returns toscale is implied by the movement from the point b to point c. Because, between these two points inputs have doubled and output also has doubled. Decreasing returns to scale are denoted by the movement from the point c to point d since doubling the factors from
4 units to 8 units produce less than the
increase in inputs, that is, by only 33.33%.

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