Diminishing returns and marginal products refer to the ponce of output to an increase of a sing input ‘hen all other inputs are held constant, We aw that increasing labor while holding land constant would increase food output by ever-smaller increments. But sometimes we are interested in the effect of increasing AL! inputs. For example, what would happen to wheal production if land, labor, water, and other inputs were increased by the same proportion what would happen to the production of tractors if the quantities of labor, computers, robots, steel and factor}’ space were all doubled? These questions refer 10 the returns 10 scale or the effects of scale increases of inputs on the quantity produced. Three  important cases should be distinguished: Constant returns to scale vacuous- a case where a change in all inputs leads 10 a proportional change in output. For example, if labor, land, capital, and other inputs are doubled, then under constant returns to scale output would also double, Many handicraft industries (such as hairsplitting America or hand loom operation in a developing country) show constant returns.

Increasing returns 10 scarce (also called economies of scarce)’arise when an increase in all inputs leads 10 a more-than proportional increase in the Icicle of output. For example. an engineer planning a small-scale chemical plant will general Iv find that increasing the inputs of labor. capital. and materials by 10 percent will increase the total output by. more than 10 percent. Engineering studies ave determined that many manufacturing processes enjoy modestly increasing returns to scale for plants up to the largest size used today. Decreeing to Scale occur when a balanced increase of all inputs leads to a less-than proportional increase in total output. In many processes, scaling up may ,eventually reach a  point beyond which inefficiencies set in. These might arise because the costs of management or .control become large. One case has occurred in
electricity generation, where firms. found that when plants grew 1.00 large, risb of plant failure ‘grew 1.00 large. Many productive activities involving natural resources, such as growing wine grapes or providing clean drinking water to a city, . show decreasing returns to scale.

Production shows increasing, decreasing. or constant returns to scale when a balanced increase in all inputs leads to a more-than-proportional, less than- proportional. or just-proportional increase in . output.

One of the common findings of engineers is that modem mass-production techniques require that factories be a certain minimum size, Chapter 2 showed that as output increases, firms may divide production into smaller: steps. taking advantage of specialization and division of labor. In addition, large-scale production allows intensive use of spec, alkalized capital equipment, automation. and computerized design and manufacturing to perform simple and repetitive tasks quickly.

Information technologies often display strong economies of scale. A good example is Microsoft Widows 98. Developing this program required more than $1 billion in research. development. beta testing. and promotion, Yet the cost of adding Windows a new computer is very close to zero because doing so simply requires a few seconds of computer time. We will see that strong economies of scale often lead to firms with significant market power and sometimes pose major problems of public policy.

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