Diminishing returns (economics)
Diminishing returns, also known as the law of diminishing returns or the principle of diminishing marginal productivity, is a fundamental economic concept that describes how increasing one input in a production process, while keeping other inputs constant, will eventually lead to a reduction in output. This principle illustrates that after a certain point, adding more of one resource—such as labor or raw materials—results in progressively smaller increases in the amount produced. For instance, in agriculture, a farmer may see significant gains in crop yield with initial increases in rainfall. However, beyond an optimal level of rainfall, further increases can result in adverse effects, such as crop failure due to overwatering.
Historically, the concept has roots in the writings of economists like Anne Robert Jacques Turgot and Thomas Malthus, who explored its implications on wealth and food production, respectively. Diminishing returns highlight the importance of understanding the optimal levels of inputs needed for efficient production, as businesses strive to maximize their outputs. This principle is not just applicable in agriculture but also in various industries, including manufacturing and services, where productivity can decline if too many resources are applied without a corresponding increase in efficiency. As such, the law of diminishing returns remains a crucial consideration for economists and business strategists alike.
Diminishing returns (economics)
Diminishing returns—also known as the law of diminishing returns and the principle of diminishing marginal productivity—is an economic principle dealing with production. The law states that if one input in production increases while other all other inputs are fixed, a point will come when increasing the one input will cause a decrease in the output of the production process.
Production includes inputs and outputs. Inputs are resources—such as energy, raw materials, workers, or information—that are put into a production system. Outputs are the goods, services, or work produced by an individual, a company, or an economy.
To produce outputs, one needs inputs. For example, to make a pair of jeans, which is an output, a manufacturing company needs inputs such as fabric, workers, and sewing machines. The company manufacturing the jeans can increase the inputs. For instance, it can buy more fabric, hire more workers, and purchase more sewing machines. Each of these changes in input will change the number of outputs the company produces.
Businesses and economies benefit financially by maximizing outputs. Therefore, companies and economies change inputs in the hopes of changing outputs. If the company making jeans wants to increase its production numbers, it might hire more workers to make more jeans. If the company has one worker and hires a second worker, it could double the number of outputs. The company makes more money from this change.
Then, the company hires another worker, increasing the number of workers from two to three. Although the increase in workers does increase the company’s output, it does not double the output. In both cases, the company increased the input the same amount; however, the output did not increase the same percentage in both cases. This is an example of diminishing returns.
Eventually, if the company continued to hire workers, the factory would become crowded, noisy, and unproductive. The company would then begin to produce fewer pairs of jeans overall. This shows that diminishing returns will eventually decrease the outputs produced.
Example of Diminishing Returns
Another example of diminishing returns is that of a farmer growing corn in a field. The field size, the number of workers tending the crop, and the type of corn do not change. The amount of rain does change though. Imagine that the amount of rain per season first increases from zero inches to one inch. This increases the amount of corn that grows that season. When the rainfall increases from one inch to two inches, the output increases again. However, the output does not increase as much as it did when the rainfall increased from zero inches to one inch. In this case, an increase in the input (i.e., rain) can eventually have a negative effect on outputs. If the area received a significant amount of rain, the crops could become overwatered and die. If most or all of the crops die, the farmer's output will dramatically decrease.
Origins of Diminishing Returns
The oldest economic theories still used today were developed during the mid-1700s. The law of diminishing returns was fist discussed during the late 1700s, and the idea was first written about by Anne Robert Jacques Turgot. He was the French finance minister in the 1770s. Turgot believed that the only way for a nation to increase its wealth was to increase agriculture. He realized that most resources (e.g., minerals, water, etc.) were fixed, but agriculture could produce new goods that had no fixed amount. Nevertheless, he also realized that one nation could only increase its agriculture output so much since the amount of land would not change. Because of this, he acknowledged the law of diminishing returns.
English economist Reverend Thomas Malthus also acknowledged diminishing returns. He published a book that introduced the idea of diminishing returns, although he did not specifically name the theory. In the book, Malthus described a theory he had about the world's ability to sustain human life. Malthus explained that because a country's land mass does not increase, the country will be able to produce only a certain amount of food as the population grows. Malthus believed that hunger and human suffering were inevitable because of the law of diminishing returns.
After the idea of diminishing returns was first discussed in the 1700s and 1800s, other economists expanded on it. In the twenty-first century, economists continue to study the law of diminishing returns and the effects this law has on individuals, businesses, and economies. Businesses also study diminishing returns. They can benefit from understanding the optimal level of inputs needed to produce many outputs efficiently.
Throughout history, the law of diminishing returns has been an important factor in human life. Even before the theory was identified, its effects shaped human history. The law of diminishing returns is a central concept in agriculture. The law states that if only one input is changed, eventually fewer crops will be produced on a certain section of land. Furthermore, the law of diminishing returns can be applied to other everyday situations, such as employees in a clothing store. At first, hiring employees will increase the store's outputs. At some point, hiring more workers will decrease the productivity of the rest of the employees, and the number of outputs will decrease.
Bibliography
Carson, Richard. "The Law of Diminishing Returns, or of Variable Proportions, and Input Complementarity." Educational Development Centre at Carleton University. Carleton University. Web. 11 Feb. 2016. http://http-server.carleton.ca/~rcarson/articles/dimin‗returns.htm
"Inputs." BusinessDictionary.com. WebFinance, Inc. Web. 11 Feb. 2016. http://www.businessdictionary.com/definition/inputs.html
Johnson, Paul M. "Diminishing Returns, Law of." A Glossary of Political Economy Terms. Paul M. Johnson. Web. 11 Feb. 2016. https://www.auburn.edu/~johnspm/gloss/diminishing‗returns‗law‗of
Krugman, Paul, and Robin Wells. Microeconomics. New York: Worth Publishers, 2009. Print.
McConnell, Campbell R., Stanley L. Brue, and Sean M. Flynn. "8.1 Law of Diminishing Returns." McGraw-Hill. McGraw-Hill Global Education Holdings, LLC. Web. 11 Feb. 2016. http://highered.mheducation.com/sites/0073375691/student‗view0/chapter8/origin‗of‗the‗idea.html
"Output." BusinessDictionary.com. WebFinance, Inc. Web. 11 Feb. 2016. http://www.businessdictionary.com/definition/output.html