What Is the Law of Diminishing Marginal Returns?
I'm going to explain the law of diminishing marginal returns directly to you. This economic concept shows that, after a specific threshold, each additional unit of input produces less additional output when other inputs remain fixed.
Take a factory that employs workers to make products. At some point, it hits an optimal level. If you keep all other factors constant and add more workers beyond that, operations become less efficient.
You should know this law connects to diminishing marginal utility and contrasts with economies of scale.
Key Takeaways
- The law of diminishing marginal returns theorizes that after a certain level, additional inputs will lead to smaller gains in output.
- After some optimal level of capacity utilization, the addition of any larger amounts of a factor of production will inevitably yield decreased per-unit incremental returns.
- For example, if a factory employs workers to manufacture its products, at some point, the company will operate at an optimal level; with all other production factors constant, adding additional workers beyond this optimal level will result in less efficient operations.
Understanding the Law of Diminishing Marginal Returns
You might hear this called the law of diminishing returns, principle of diminishing marginal productivity, or law of variable proportions. It states that adding more of one production factor, while keeping others the same, eventually leads to decreased per-unit returns.
This doesn't mean the extra unit cuts total production—that's negative returns—but it often happens that way.
This is a core idea in economics and production theory, which studies converting inputs to outputs. If you're in business, analyzing, or providing loans, you calculate these returns to see if growing production makes sense.
History of the Law of Diminishing Returns
Let me tell you about its origins. It ties back to early economists like Jacques Turgot, Johann Heinrich von Thünen, Thomas Robert Malthus, David Ricardo, and James Anderson. Turgot mentioned it first in the mid-1700s.
Classical economists like Ricardo and Malthus blamed output diminishment on lower input quality. Ricardo developed it as the intensive margin of cultivation, showing how more labor and capital on fixed land yield smaller increases.
Malthus used it in his population theory, arguing population grows geometrically but food arithmetically, leading to shortages from diminishing returns.
Neoclassical economists say each labor unit is identical, and diminishing returns come from disrupting production when adding labor to fixed capital.
Diminishing Marginal Returns vs. Returns to Scale
Understand the difference here. Diminishing marginal returns happen in the short run when you increase one input, like labor or capital, while keeping others constant.
Returns to scale are about the long run, when you increase all production variables. That's where economies of scale come in.
For instance, if a manufacturer doubles inputs but gets only 60% more output, that's decreasing returns to scale. If output doubles too, it's constant returns. If output triples, you've got economies of scale.
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