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March 03, 2018

Law of Increasing Returns - Diminishing Cost

March 03, 2018


An increase of variable factors of production while keeping other factors constant, there is an increase of marginal output to a certain point. The law of increasing returns operates only up to a certain point. After the optimum point the law of decreasing returns begins to operate. This law can only be applied in short run. It cannot be applied in long run, because in the long all factors of production are variable.

Law of Increasing Returns - Explanation

The law of increasing returns can be illustrated with the help of a schedule and a diagram.

Schedule of law of increasing returns

The above table shows with the successive increase of units of variable factors (labor and capital) while keeping the units of fixed factor (Machine) constant, the marginal and total output of bottles are increasing. We can see the marginal out is increasing till 5th unit of variable factors. After the 5th unit, the marginal output is decreasing which means the law of increasing returns is in operation and machine has reached to its full capacity.  Thus, the increase of marginal output till 5th unit of variable factors is representing the law of increasing returns.

Now we will illustrate the law of increasing returns with the help of a diagram.

Law of increasing returns

In the above diagram (2.2), units of capital and labor on X- axis and marginal output on Y-axis have been measured. FPR is the marginal output curve which is rising upward from left to right. We can see the marginal output is increasing with increase of units of variable factors (labor and capital). This increase of marginal output is representing law of increasing returns.

Also read:

Law of diminishing returns

Law of diminishing marginal utility

Law of demand

Law of Diminishing Cost

When variable factors such as labor and capital are used successively, the business expands and moves towards the optimum and the cost of production is falling. Therefore, the law of increasing returns also known as the law of diminishing cost. It can be illustrated with the help of a table.

Low of diminishing cost

The above table shows that the units of machine is fixed at 7 and units of labor is variable. We can see the marginal output is increasing with successive application of labor. We have assumed the cost of each unit of labor is Rs. 3500, therefore marginal cost of each bottle is declining. Thus, we can say law of increasing returns is similar to the law of diminishing cost.
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