Criticisms.

The MPT of wag has criticized by many economists, Prominent among them are Samuelson, Keynes, Frasher, Barbara Wootton. The main criticisms levelled against this theory are follows :

1. Based on unrealistic assumptions :This theory is based on many assumptions are unrealistic, this theory has no validity. For example, this theory assumes stationery state, Perfect competition, Perfect mobility of labor, labor is homogeneous. These assumptions are not true in real world. The world is not static, competition is not perfect, labor is not homogeneous.
2. Difficulty in the measurement of marginal product :It is not possible under certain circumstance to measure the measured product of labor. If the marginal product cannot be measured, How can the labor be priced. Because, the additional or withdrawal of a factor in a large scale industry has hardly any effect on total output. The different factors are jointly used in the production of a commodity. Hence the productivity of a factor cannot be measured separately. If the productivity of a factor cannot be measured, the wage cannot be determined on the basis of marginal product. But some of the economists are of opinion that the marginal product of the factors can be estimated by varying a factor, keeping all other factors constant.
3. MPT does tell how the reward of a factor is determined in actual practice :This theory takes the reward of labor as given and explain how the entrepreneur equates the MP to the given wage. So this theory does not exactly tell us how the reward of labor is determined in actual practice. Samuelson has rightly remarked-"It is not a theory that explains wages, rent or interest ;on the contrary, it simply explains how factors of production are hired by the firm, once their prices are known."
4. MP also depends on reward :According to this theory, the Mp affects its reward. But the MP not only affects the reward, but is also affected by the reward. As is well-known, the MP of efficiency of labor depends to a large extent on the reward it gets. Because, as the reward of labor increases, the volume of living of the laborers increase, they become healthy and the productivity increase.
5. Wage rate is not the sole determinant of the volume of employment :It follows from MP theory that the wages rate is the sole determinant of the volume of employment in a country. So if the wages are lowered, the volume of employment will automatically of increase. But Keynes said that the volume of employment is determined by the effective demand and not by wage rate. For example, during the time of depression both wage rate and employment are low.
6. Long-term explanation :The MP theory furnishes a long term explanation of the factor pricing in the long run tends to be equal to its tells us that, the price of labor in the long tends to be equal to its marginal product. But the critics are of opinion that long period is not as important as short period to us. Keynes observes -"We are all dead in the long run. "Likewise, Stonier and Hague remark - "Long period, like tomorrow never comes. "The MPT ,thus, does not throw light on the short determination of wage.
7. Supply of a factor is not fixed :The MP theory assumes the supply of a labor to be fixed. In actual practice, the supply of a factor with the exception of land is seldom fixed, particularly in the long period. The reward received by a factors affects its supply. The fact is that this theory approaches the problem from demand side only. It offers, thus, a one sided explanation of the problem of distribution or wage. Fresher observes -"Its postulates are unduly rigid and narrow."
8. Ignored labor unions :According to Barbara Wootton ,this theory has ignored the role of strong trade unions in the determination of wage. There exist strong trade union in modern days. These unions are able to keep wage rate above marginal product by means of collective bargaining.
9. Ignores power structure, social tradition etc. This theory has ignored the power structure, social tradition, social prestige and level in determination of wages of different classes of laborers. The salary of top executive and other personal is determined by these factors rather than product. The chief executive generally receives the salary more than marginal product. According to pro. Pen -"This theory does not explain the discrimination between male and female, between different races and social classes."
10. Ignored distributional justice :Since this theory approves low wage and ignores distributional justice, this theory unjust and cruel. The marginal product of old, blind, lame is low or zero. Similarly, if the supply of labor, exceeds demand, the MP in an industry or sectors becomes low. This implies that the wages should be paid less than what is necessary.

Concept of factor pricing

The theory of factor pricing is also called the theory of distribution.Distribution is one of the important divisions of economics.
In modern word.human wants are unlimited.So large scale production is necessary.The large scale production in turn,necessitates large amount of factors of production like land,labour,capital and organization.These factors are supplied by various persons.As for example,the land is supplied by landlords,labour by labourers,capital by capitalists and management by entrepreneurs.Since production is the result of join effort,all the factors of production,it should be distributed among them.Hence,in theory of factors pricing.We study how the production is distributed among different factors,wages and profit.In the theory of factor pricing,we study how the rent,interest,wages and profit are determined.
According to Wicksteed -"What is understood by 'distribution' as a branch of practical economy is the study of the principles on which the product of any complicated industrial process is distributed amongst those whop how in any way contributed towards securing it."
In the worlds of Nicholson - "Distribution in the economic sense refers to the division of the wealth of a nation amongst the different classes."
Likewise,according to Chapman -"The economics of distribution accounts the sharing of the wealth product by a community among the agents,or the owners of agents,which have been in active in its production."

Meaning of monopolistic competition.

Historical perspective: There existed only two forms of market in late 1920s and early 1930s - perfect competition and monopoly. There was an opposition against the use of both perfect competition and monopoly as the analytical models of business firms and market behavior.Piero Staff was among the first the limitations of competition or monopoly. He was followed by other writers.Hotelling remarked – “Between the perfect competition and monopoly theory lie the actual cases.” Similarly; Zeuthen observed – “Neither monopoly nor competition are absolute nor the theories about them deal only with the outer margins of reality. Which is always to be sought between remarked?”

In the late 1920s and early 1930s, he economists began turning their attention to the middle ground between monopoly and perfect competition. The most notable achievements were made by two economists working independently. The American economist Edward H. Chamberlain ‘The theory of monopolistic competition and Imperfect competition in the same year, 1933. These economists thus gave a new shape to the market structure, price determination and business organization.

The terms imperfect competition and monopoly are used in the same sense, but a distinction exists between them.

The perfect competition is not found in reality, nor is monopoly found in reality. The reality is, however, found these two extremes. The market where neither perfect competition nor monopoly exist is called imperfect competition. The two imperfect conditions are to be fulfilled for perfect competition:

A) Large number of firms

B) Homogeneous product

If one or both of these conditions are unfulfilled, it is imperfect competition. Hence, imperfect competition is a wide term which includes a variety of market firms, viz, monopolistic competition, oligopoly, duopoly and even monopoly.

Comparition of Monopoly with Perfect Competition.

Perfect competition and monopoly are two extremes of market structure. They are polar opposites. Both of them cannot be found in the real world. So many differences can be found
Between then is that a firm gets equilibrium when MR equals Mc is both the markets. The competition between these markets has been presented below.
• Numbers of sellers. There are number of sellers in perfect competition. Each firm produces a small part of the total industry output.Hence; an individual firm cannot influence the price. In fact, an individual firm is only a price-taker, not the price-maker. On the other hand, there is only one firm or seller in monopoly. He has full control over the supply of the commodity he produces.
• Difference between firm and industry: There is large number of sellers or producer firms in perfect competition.So; there is destination between firm and industry. A group of firms producing homogeneous goods is called an industry. The cross elasticity between the products of the firms is infinite. The average revenue curve of the firm and industry is also different. But since there is only one seller in monopoly, there is no difference between a firm and an industry. The monopolist produces and sells the good which has no close substitutes. In monopoly, the cross elasticity between the product of the monopolist and other producers is very small if not zero. The average revenue curve of both firm and industry is same.
• Price and marginal cost :In perfect competition, the equilibrium price to marginal cost.Because,in perfect competition, the AR curve is a horizontal straight line and the MR curve coincides with AR curve, or average revenue equal marginal revenue.Hence,at the point of equilibrium not only the MR and MC are equal but also MC is equal to AR or price. On the other hand, in perfect competition, the price is higher then marginal cost. Since in monopoly, the AR curve is downward sloping the MR curve lies below the AR curve.Hence, at point equilibrium, the price is higher than marginal cost. In perfect competition, price = MR =MC whereas in monopoly p > MC.
• Rising marginal cost: In perfect competition, for equilibrium it is required that the MR should be equal to MC and MC curve must cut the MR curve from below. For the second condition of equilibrium to be fulfilled, the MC curve must be rising at the point of equilibrium.Since, the MC curve is a horizontal straight line perfect competition, and the MC curve can cut the MR curve from below only. When MC curve is rising. But although both the condition has to be fulfilled in monopoly equilibrium, the firm can get equilibrium also in the situation when MC is raising constant and Falling. The second condition of equilibrium can be fulfilled even if the MC curve is rising. Constant and falling.Because, the MR curve is downward sloping in monopoly.Hence, the MC curve can cut the MR curve from below when the MC curve is rising, constant and falling.
• Position of average cost: In perfect competition, a firm gets equilibrium in the long run at the lowest point of long run average cost curve. In other worlds, the firm is of optimum size in the long run.Because, since MR and AR remain constant, it is profitable to increase the output till AC is falling.Hence; in the long run equilibrium, the marginal revenue or price is equal to both marginal cost and the minimum average cost. This situation does not exist in monopoly. In monopoly the firm gets equilibrium when average cost is decreasing or before reaching the minimum point.Because, it is not profitable to expand the output unto the minimum point of average cost.Usually, the MC curve cuts the MR curve when the AC is falling.
• Position of profit: In perfect competition, the firms may earn abnormal profit in the short run but not in the long run.Because, if the firms earn abnormal profit, the new firms enter into the industry. The abnormal profit is competed away and the firms earn only normal profit. But in monopoly, the firms are able to earn abnormal profit even in the long run. Because there is a strong barrier to the entry of new firm.Nevertheless, the monopolist may also incur loss in the short period due to low demand or high cost.
• Price and output position: In perfect competition, the price is lower and the output is higher.Because, since the demand is perfectly, it is profitable to sale more at lower price. On the contrary, in monopoly, the price is higher and the output is lower. In monopoly, the demand is inelastic.Hence, the monopolist charges high price and produces and sells lower quantity.
• Price discrimination: It is not possible different prices to different customers in perfect competition.Because, the demand curve is perfectly elastic in the existing price and the buyers have complete knowledge about the existing price.Hence, if a seller raises price, he will have to lose the customers. But the monopolist may discriminate the price in different markets having different elasticities.Because since there is no close substitute of the product produced by the monopolist; he has full control over the supply of the product. The demand for his products is less elastic.

Conditions or requirments for price discrimination.

A profitable and effective price discrimination needs the following conditions to be fulfilled :

1. Monopoly firm : The firm should be a monopolist.There is perfect knowledge and perfect mobility in perfect competition beside the existence of a large number of sellers.Hence,price discrimination is not possible on perfect competition.
2. Market segmentation :The seller must be able to segment the total market by segregating buyers into groups or sub markets according to elasticity.For example,if the buyers can be divided into rich and poor,national and foreigners,they can be changed different prices.
3. Market sealing :The resale of the commodity is not possible or is banned.The sellers must able to prevent any significant resale of goods form lower to higher prices bus-markets.Any leakage in the form of resale by buyers between sub-markets will tend to neutralise the effect of differential prices.For example,the services of doctors,lawyers cannot be resold.Likewise,the domestic buyers may not be allowed to sell some products in foreign markets buyers due to difference in income,location,available alternatives,tastes and other factors.In general,high price is changed in the market having inelastic demand and law price is changed in the market having elastic demand.
   

Discriminating Monopoly or Price Discrimination.

In simple monopoly,the seller changes uniform price for all of output or changes same price to all customers.But if he changes different prices to different bovers at the same time for the same product,it is called price discrimination or discriminating monopoly.According to J.I.Pappas and E.F.Brighm - "In a general sense,price discrimination can be said exist whenever different classes customers are charged different prices for the same product."
In the world of A. Koutsoyiannis - "Price discrimination exists when same product is sold at different prices to different buyers."
Likewise, Mrs.Joan Robinson observe -"The art of selling the same article under a single control at different prices to different buyers is known as price discrimination."
The example of price discrimination can be found in service industries of lawyers,doctors,.They may charge different prices to the poor and rich on the basis of economic condition also can discriminate price.since a monopolist has sole control over the supply of a commodity,he can easily discriminate price.The different types of discounts provided to the customers is also a kind of price discrimination.

The price discrimination is made with following objectives :

1. Profit maximisation :The business enterprises discriminate price to maximise profit from the sale of their outputs.
2. Social justice :Price discrimination may be made to protect some classes of people such as women,children,old and poor.
3. Capture the market : Sometimes price discrimination is made to capture the market and to crush the rivals.
   

Conditions necessary for pure monopoly.

The following conditions are necessary for pure monopoly :

1. Single seller : There exist only one seller or producer of the product.He has control over supply of the product.Monopoly may be in the form of individual owner or join stock company.
2. Absence of close substitutes : There should not exist any close substitute of the product.Because,if there are substitutes,competition prevail and monopoly disappears.Bober opined -"As the one seller,he may be a king without a crown.The cross elasticity between the product of the monopolist and any other producer must be small if not zero.
3. Restriction on the entry of new firms : There is strong barrier in the entry of new firms.Hence the existing firm has sole control over the supply.Due to this feature,the monopolist earns abnormal profit both in the short run as well as in the long run.

The pure monopoly existing only in economics theory.Because,there cannot be only firm producing a good.Similarly,a firm is not completely free from competition of close substitutes.In modern days of free enterprises economy,even in public utilities like electricity,postal service,telephone,water supply we can find some sort of competition.In Nepal as well different sectors which enjoyed traditional monopoly like airline,electricity,water supply,postal service are rapidly breaking up due to the liberalisation policy of the government.But the study of monopoly is necessary to know the economies of regulation which is signification for business mangers.

Meaning of monopoly.

Perfect competition and pure monopoly are two extreme forms of market structure.They are polar opposite.In perfect competition there are large number of buyers and sellers while in monopoly the seller is only one but the buyers are many.These both forms of market can be rarely found in the real world.The monopoly is a single seller or producer of his product.Since,there is only one firm there is no difference between a firm and industry in the monopoly market.
A monopoly refers to a single firm which has control over the supply which has no close substitutes.In the worlds of C.E. Ferguson -" A pure monopoly exists when there is only one producer in the market."
According to A.Koutsoyiannis -"Monopoly is a market structure in which there is a single seller, there are no close substitutes for the commodity it produces and there are barriers to sentry." For example a hotel or a bank in a remote village commands monopoly power.Likewise,public utilities like telecommunication,electricity supply,drinking water supply,postal service are the example of pure monopoly.This kind of monopoly has been called 'absolute monopoly' by Sraffa.In reality,pure monopoly is a myth which is found rarely in the real world.In the real world,only imperfect monopoly can be found where the monopoly has to face substitutes.For example,Nepal electricity authority may be called a imperfect monopoly since it has to face competition of distance substitutes like kerosene,petrol,gas,candle in different uses.

Pricing under perfect competition.

Equilibrium of firm and industry :The following three conditions should be fulfilled for an industry to be equilibrium :

1. The quantity demanded and supplied of the commodity produced by the industry should be equal.Because,if demand and supply are not equal,three cannot be equilibrium price.For example, if supply is higher than supply,the price tends to rise and if supply is higher than demand,price tends to fail.
2. All firms must be in equilibrium.The firm will be in equilibrium when marginal revenue equals marginal cost and the MC curve cuts the MR curve from below.
3. There should be no tendency on firms to enter or leave the industry.The tendency does not exit when all the firms are earning only normal profit.The firm earn normal profit when average revenue equals average cots.The normal profit is just sufficient to retain the firms in industry.If the firms are earning abnormal profit ,there is tendency on new firms to enter the industry.On the other hand,if the firms are increasing losses,there is tendency on firms to leave the industry.The situation of earning normal profit is called full equilibrium.

Short-run equilibrium :
The three conditions necessary for industry equilibrium mentioned above are fulfilled in the long run.The third condition need not be fulfilled in the short run.Because,in the short run there in no possibility of new firm entering the industry and exiting firm leaving the industry.
There are two approaches to show equilibrium of a firm : total revenue - total cost approach and marginal revenue - marginal cost approach.

Total revenue - Total cost approach :
The aim of the firm is to maximise profit.So the firm will be in equilibrium when it maximises profit.Profit is the difference between TR from sales and total cost of operation.Profit is maximum for the rate of output that maximises the excess of revenue over cost.

conditions of perfect competition

The following conditions are to be fulfilled for a perfect competition market :

1. Small size,large number :These should exist large number of buyers and sellers in the market.They cannot exert influence on price.The consumer taken individually is unimportant.He cannot get special facilities from the sellers,such as credit,free service,discount etc.
2. Homogeneous product : All firms product homogeneous product.Their products are identical.The products are perfect substitutes of each other.The cross elasticity between the products of the firms is infinite.Since products are homogeneous ,a single firm cannot affect price.The buyers are also indifferent as to the firm they purchase.
3. Free mobility of resources :All resources are perfectly mobile.It implies that each resources can move in and out of market readily in response to reactionary signals.The implies that the required labour skills are few,simple and easily learned.Free mobility also means that the inputs are not monopolised by a producer or an owner.
4. Free entry and exit of firms :The new firms can enter and leave the industry without any difficulty.This condition is very difficult to realise in practice.The absence of barrier in entry and exit applies only in the long run.In the short run entry and exit is not possible.
5. Perfect knowledge :The consumers,producers and resources owners must have perfect knowledge,about the market.The consumers should know the market price.If not,they might buy at higher prices even when lower prices are available.There will then not be uniform price in the market.If they have perfect knowledge about the prevailing price,the not more than the prevailing price.

The producers need to know both costs as well price in order to produce the profitable rate of output.The sellers will not charge more than prevailing price.If they charge higher price,they Will have to loss the customers.Thus,due to the complete knowledge,a price prevails in the market.
Similarly,the resources owners should have perfect knowledge of the market.For example,if labourers do not know the wags rates offered,they may not sell their labour services to the highest bidders.
Besides these factors,ti is also assumed that is the absence of transport cost.The objectives of the firm is to maximise profit and that of consumer is to maximise utility.There are no government intervention in the form of tax or subsidy.
These requirements show that no market can be perfectly competitive.Even in agriculture market,the requirement of 'perfect knowledge' cannot be fulfilled due to vagaries of whether conditions.

Significance of the law

Despite the weakness,the law of variable proportion in universal in application.Marshall and his followers believed that the law of increasing returns is applicable in manufacturing industries while the law of diminishing returns is applicable in agriculture.But this is not true.When a factor is increased keeping constant the other factors,the level of technology being held constant the product definitely decrease both in agriculture and industry.
This law has proved to be true empirical evidence.As opined by Fritz Machlup - "That people do not grow all the crops they want in just a few little flower pots is sufficient proof for the existence of diminishing returns."According to R.C. Lipsey -"Indeed,were the hypothesis of diminishing returns incorrect,there would need it a food crisis."The improvement in technology can postpone the operation of this law for the time being but cannot completely check the operation of this law.
It is be noted that although this is applicable equally in both agriculture and manufacturing,the operation of the law of diminishing returns can be postponed in manufacturing due to rapid development technology.But,the law operates due to the predominance of nature.
The law of diminishing returns operates in industry in a country like Nepal due to the non-development or slow development of technology.It some of the developing countries cost is decreasing and out put is increasing due to the development of technology.But the operation of this law is inevitable if 'technology remains constant' as assumed by this theory.Hence,the increase in production is necessary to meet the demand of growing population.
The law of variable proportion is of special significance in economic theory.Because some of the laws of economics are based directly on this law.For example,the Ricardian theory of rent and the Malthusian theory of population are based on this law.According to Ricardo since the law of diminishing returns operates in agriculture,even inferior land should be cultivated.On account of this superior by the growing population cannot be met due to the operation of the law of diminishing returns in agriculture.He has thus pointed out the need to check population by various methods.

Law of variable proportions

The law of variable proportions is one of the important laws of economics.It is new name for the law of diminishing returns.The economists like Marshall,Benham,Samuelson,Mrs.Joan Robinson have contributed to the development of this law.This law shows the short run input relation.The gist of this law is that if the quantity of factors is increased keeping constant the quantity of other factors,eventually the marginal and average product decline.
According to C.E. Ferguson -"As the amount of variable input is increase,the amount of other inputs held constant,a point is reached beyond which marginal product declines."
Likewise,in the worlds of W.J. Baumol -"As more and more of some input is employed,all other input quantities being held constant,eventually a point will be reached where additional quantities of input will yield diminishing marginal contribution to total product."
The clear example of this law can be found in agriculture production.In agriculture,if we keep the quantity of land fixed and go on increasing the quantity of labour,eventually the marginal product decline.

Production functiion

Production function shows technological or engineering relationship between output of a commodity and its input.In traditional economic theory,it is stated that are four of production.But technology also contributes to the increase in output.Hence,technology may be taken as an additional department of output.Thus,output is a function of land,labour,capital,organisation and technology.
In the worlds of Stigler -"the production function is the name given to the relationship between the rates of outputs of productive services and the rate of output of the product."
Similarly,in the words of Pappas Brigham-"Production function specifies the maximum possible output that can be produced for a given of outputs or,alternatively,the maximum quality of inputs necessary to produce a given level of output."
The production can be expressed symbolically as .

x=f (ld,l,k,m,t)
The above function shows the general production function.In specific situation,one or other of these factor may not be important.The relative importance of factors of production varies from one type of product to another.For example,land is more important in agriculture but not in manufacturing.Similarly,management and technology are more important in industrial production than in agriculture production.For example analysis of production decision problems,it is convenient to assume only two inputs for an output.If labour and capital are only two inputs,the production function is,
X=f (l,k)
This function has three variable i.e. necessary out put of X and units are labour and capital.
Both labour and capital are necessary for production and they are substitutes of each other.The entrepreneur will have to use both of them but would have an option to employ any one combinations of factors out of several possible combinations.The alternative combinations of factors for a given output level be such that if the use one input is increased,that of other will decrease and vice versa.
The alternative combinations of labour and capital for making 10 TV sets per day are illustrated below.

Labour Capital
5 20
6 17
7 15
8 13
9 11
10 10
The table shows that to produce 10 units of TV sets,either 5L and 20 K OR 6L and 7L and 15K etc,can be combined.

Derivation of total product,average product,marginal product curves.

The total product,average product and marginal product curves can be derived from the table.Suppose that wheat is grown on 10 ropani of land.The fixed input is land,the variable input is labour,and the out put is in quintal.The total product,average product and marginal product are as shown in the table.

Units of labour Total product Average product Marginal product
1 10 10.0 -
2 24 12.0 14
3 39 13.0 15
4 52 13.0 13
5 61 12.2 9
6 66 11.0 5
7 66 9.4 0
8 64 8.0 -2
The table shows the behaviour of total,average and marginal product of labour.The total product first increase,reaches maximum when 7th units of labour is used and then declines.The average and marginal product both increase in the beginning,reach maximum and decline.The marginal product is equal to average product,when average product is maximum.When marginal product is zero,total product is maximum.

Theories of production

It is conventional to define production as "the creating of utility."It points out that production embraces a wide range of activities and not only the preparation of material goods.Hence, rendering legal advice,writing a book,setting a motion picture are all examples of production.J.L. Hanson has thus rightly remarked "in economics,however,production is not restricted to the manufacture of commodities but also includes the provision of direct services.Such as those of the lawyer,the accountant,the actor,or musician etc."But everyday speech,the world production is often used ad is were synonymous with creating something.
It is difficult to supply the inputs used in producing the output of services.due to this,while production in a general senses refers to the creation of any goods or services people will buy,the concept of production is much clearer when we speak only of goods.Here it is simpler to specify the precise inputs and to identify the quantity and quality of output.As for example,producing a quintal of rice requires land,seeds,fertiliser,tools and human labour.Even today every act of production requires the input of human resources.The production normally requires capital equipments like machinery,tools and buildings,and raw materials,labour.In the worlds of J.P. Gould and E.P. Lazear "The theory of production consists of an analysis of how the entrepreneur -given the 'state of art' or technology combines various inputs to produce a stipulated output in an economically efficient manner."

Concept of elasticity of supply

Elasticity of supply like elasticity of demand is important in price theory.The change in price leads to the change in supply.The degree of change in supply due to the change in price is called elasticity of supply.To be more precise,the elasticity of supply can be defined as the proportionate change in quantity supplied to the proportionate change in price.
Hence,elasticity of supply is 2 or greater than unity.In general,since the price and the quantity move together,the elasticity of supply has positive more sing.When supply is elastic,the quantity supplied changes more than proportionately than change in price.On the other hand,if supply is inelastic,the quantity supplied changes less than proportionately than change in price.
The elasticity of supply may be different at different price ranges.Like demand curve,the supply curve is also perfectly elastic when it is a horizontal straight line and perfectly inelastic when it is a vertical straight line.In the figure, at portion AB,the supply is elastic and at portion BC,it is inelastic.
Figure also shows that the sellers do not at all below certain price such as OP.If price is OP,the sellers sell up to OQ1 quantity without high price.The price should be higher to sell more OQ1.Finally,the seller cannot and does not sell more than OQ2 however high the price may be.In the figure,at point B (where the supply curve is tangent to the line drawn from the point of origin),the elasticity supply is unity.When the supply curve is a straight line from the point of origin,the supply is unitary elastic throughout the length of the supply curve,whatever be the slope.

Long run supply curve

The long run supply is a long of time.In the long run even fixed factors can be changed.The firms can enter or leave the industry according to demand condition.If the demand is high,new firm enters the industry and if the demand is low,some firms leave the industry.
In the long run firm will be equilibrium when the MC curve cuts the minimum point of LR average cost curve.The run price will be equal to both marginal cost and minimum average cost.Hence,in the long run the firm produces and sells the indicated by the minimum point of LR average cost curve.
The LR supply curve of industry of LR marginal cost curves due to the following reasons :

1. In the long run only the particular point of LR marginal cost curve is the LR supply curve of a firm not all part of LR marginal cost curve .
2. In the long run,the number of firms change at different prices or demand conditions.
3. In the long run if the industry expands,internal economies and dis economies appear on account of which the LR supply curve of firms shift.Hence,the existing marginal cost cannot be summed up to derive the LR supply curve of industry.

The LR supply curve of a perfect competitive industry will have different shapes depending on whether the industry in facing increasing cost,or decreasing cost or constant cost.

Short-run supply curve of a firm

In the short run some factors are fixed while some are variable.The output can be increased only by utilizing more the fixed factors and using more variable factors.
In perfect competition MR and MC should be equal for a firm to be in equilibrium.Similarly marginal cost should be equal to price.Hence,in perfect competition,the firm produces and sells that quantity of goods at which MC =price.Since price is given for a perfectly competitive firm,the line or the AR curve is a horizontal straight line.
In the figure AT OP4 price, the firm produces and supplies OM4 quantity.Because MC=price at OM4 supply.Similarly,the firm produces and supplies OM3 at price OP3,OM2 at price OP2 and OM1 at price OP1.The firm will not produce at below OP1.Since,it will not cover even average variable cost(AVC).
It is now obvious that the short run marginal cost curve,SMC of a firm is also the short supply curve.But only the part of SMC curve which lies above AVC curve is the short run supply curve.The thick portion of SMC is the short run supply curve of the firm.Since under perfect competition.MC curve must be rising at equilibrium output,the short run curve of a firm always upwards to the right.

Cocept of supply

Supply like demand is also function of price.It is expressed as,S=f (P) :When the price the price of commodity changes,the supply of the commodity changes.But unlike demand,supply varies directly with price.The supply has positive relationship with price.It implies that supply increase in price.The supply is the quality that a seller is willing to sell at particular price and particular time.
According to Watson and Getz-"In economics,the word supply always means a schedule-a schedule of possible prices and of amount that would be sold at each price."
According to R.C.Lipsey -"The amount of a commodity that firms are able and willing to offer for sale is called the quality supplied of that commodity."
The concept of supply curve is relevant only in perfectly competitive market.The nation of supply curve is not applicable in other forms of market like monopoly,monopolists.Because the main task of a supply curve is to show much a firm can supply at the given price.In perfect competition,a firm is only a price-taker and quantity-adjuster price.In the imperfectly competitive markets,a firm determines the price of its product.It is not necessary to adjust supply at given price.

Revenue curves

There are 2 types of revenue curves :

1. Concept of total revenue,average revenue and marginal revenue :A firm earns revenue by selling its products.The revenue earned by it is divided into 3 parts-total revenue and marginal revenue.

• Total revenue :The total earned by a firm by selling its product is called total revenue.The total revenue is obtained by multiplying price per unit of a commodity by the total quality sold.Hence,it is expressed as ,

TR=P*Q
Where TR=total revenue,P=price and Q=quality.As for average example,if 10 units of a commodity are sold at price rs.10.per unit,TR=rs.10*10=rs100.

• Average revenue :The average revenue is the price per unit of a commodity.The average revenue is obtained by dividing total revenue by the total quality sold.Hence,it is expressed as.

AR=TR/Q
Where AR=average revenue.As for example,if total revenue is Rs.100 and total quantity sold is 10 units,
AR=100/10=Rs.10.
The question crops up whether the average revenue and price are same thing?The answer is that if different units are sold at the same price,average revenue and price are equal.But if different units are sold at different prices,the average revenue and price are not equal.However in real life,different units are sold at the same price.Hence,in economics average revenue is synonymous with price.It is to be noted that the average revenue curve of a firm is the demand curve of a consumer.Since the demand curve shows the quantities demanded at different prices,it also shows average revenue of a firm.Because ,the price paid by a consumer is the revenue from a seller's viewpoint.

• Marginal revenue :The marginal revenue is the addition made to total revenue while selling one more unit.According to C.E.Ferguson "Marginal revenue is the change in total revenue associated with the change in one unit of output."It is expressed as.

2.Derivation of AR and MR curves from TR curve:The average revenue and marginal revenue curves can be obtained from total revenue curve.The process is little bit different in perfect competition and monopoly or imperfect competition.Because price remains constant under perfect competition.On the other hand,price is reduced to sell more quantities under monopoly.
3.Revenue curves under perfect competition :The demand curve of a firm under perfect competition is perfectly elastic.The price is beyond the control of a firm.Because price is determined by the industry as a whole.The average revenue or price thus remains constant.If different units are sold at same price,marginal revenue equals price.

Shape of LAC curve:Empirical envidence

According to the traditional theory,the long-run average cost curve is also 'U' shaped like the short run average cost curve.But some economists have found from empirical study that the LAC curve is L shaped rather than being 'U' shaped .The LAC curves first fall rapidly in the beginning.But after a point it becomes fully flat or may slopes downward slowly.Such a L shaped LAC curve is shown in figure below.
According to most of the empirical studies there is increasing returns to scale in lower level of production.But when output increases,the economies of scale decline and the consist returns to scale operates in higher level of production.This implies that as the output increase,the LAC curve slopes downwards at the diminishing rate and finally becomes horizontal.The operation of decreasing returns to scale or output of average cost curve is rarely found.
P.J.D.Wiles has concluded on the basis of his that the average cost like the branch of left side of capital letter 'U' first rapidly and then slowly slopes downwards.The decline in cost with size is almost universal.But 'U' never turns upward.The rapid increase in cost with size is practically unknown and even little rise as rare.He remarks"Most of the cost function obey what we may call the L-shaped costs."Johnston has also derived same conclusion from his study.From the study of cost estimate of electricity production in Great Britain,he has found the average cost to decline in the beginning and then becoming leveled off.
The reasons for the LAC curve being L shaped are as follows :

1. Technological progress :In economics theory,technological is assumed to be constant.But technology changes in real life.Due to this,the average cost decline and does not rise.Suppose that the firm in the beginning produces quality at cost on working at curve.If we connect the minimum point of long run cost curve which is lower than average cost.
2. Learning by doing :The LAC curve completely slopes completely downwards due to learning by doing.Since the efficiently of firm increases due to continuing the work,it is able to reduce cost.As the output is increased,there is not only the increase in knowledge of many things,there is also an improvement in the management of plant.Due to this LAC curve is L shaped.
3. Management technique :According to the modern management theory,appropriate administrative structure is available to operate the plant of each size.There exists appropriate management technique in different levels of management.The management technique is available in large and small size.The cost of different management first fall up to certain plant size.The managerial cost slowly increase slowly up to very large level of output.
   

Diseconomies of scale

According to the traditional theory,due to the dis economies of scale after some level output,the LAC curve slopes upwards.The dis economies of scale occurs due to the human and behavioral problems in managing big business.The causes of dis economies of scale are as follows:

1. Managerial inefficiency :The manager cannot manage and coordinate efficiently if the production is made on a very large scale.The management becomes complimented,the managers become too busy and become less efficient in decision making.Due to this when the size of the firm or output increase,the staffs increase more than proportionately and the management becomes less efficient.This increase cost of production.The inability to collect monitor information in large scale production by top administrator has been called 'control loss' by Oliver Williamson.The existence of dis economies of scale has been denied by some economies.But such dis economies can be clearly seen in some industries.
2. Problems of moral and motivation:There is the problem of moral and motivation among both management and labour force in large scale production.The collective feeling is less in firms than in small firms.The moral towards the organization is less is large firms.There is no incentive to increase production.The managers of large firms fell more secure and fell no fear of getting sacked.This makers them lethargic and devoid of entrepreneurship.Consequently,the cost of production increase.

Shape of LAC curve:Theoretical reasons

According to traditional theory the long run average cost curve (LAC) is also 'U' shaped.The operation of the laws of returns to scale is its main reason.In the beginning,there is the operation of increasing returns to scale.After the cost becomes minimum,there is the operation of decreasing returns to scale.Due too economics of scale and dis economies of scale,first the average cost falls and them rises.

Economies of scale :There is economies of scale when output in increased.The causes of economies of scale are :

1. Specialization :The specialization in the use of labour brings economies of scale.More the output,more the specialization of labour.This increases efficiency of labour.The labour productivity is higher i n large firms.This reduces unit cost of production in higher level of output.
2. Technological factors :The economies of scale also occurs due to technological factors.In large scale production highly specialized machinery and equipments can be used.The productivity of equipments rise rapidly more than cost.Due to this average cost decreases at higher level of output.According to Austin Robinson,the big machinery have the quality of integration of processes,the use of which brings economies of scale.The big automatics transfer or numerically controlled machinery can operate consecutive processes as well.From this there is saving in labour and time required in installing each plant.
3. Quantity discount :The existence of quantity discount also brings economies of scale.The quantity discount is available when raw materials and other factors it will be purchased in large quantity.The large firms can easily enter into capital and time market.They can get credit at lower rate of interest.This reduces the cost of capital.
4. Invisibilities :There is economics of scale due to fact that some factors are indivisible even in the long run.Due to indivisibility,the cost decrease until it reduces the full capacity.For example,management is indivisible even in the long run.In also proprietorship,he is fully indivisible.Due to this there is difficulty in management after a point.Even if all factors are divisible,there is economies of scale when the output is increased due to factors like division of labour.Due to this the per unit cost is lower in the long run.
   

Long run cost curves

The long run is a period of time when firms have sufficient time to change size of the plant and scale of operation.Since there are no fixed factors and fixed in the long run,there no fixed cost curves.All the factors are variable in the long run.Hence,we need to examine only long run average and marginal cost curves.The calculation of both these costs same as in the short run.It should be noted that the concept of long run cost is only hypothetical.Because,there can be no change in plant every now and them.

Derivation of long run average cost curve:In the short run,firm is tied to given plan.So there is only one average cost curve.But in the long run,the firm can change plant size.The large plant is used to produce more and the small plant is used to produce less.Hence,in the long run there may be many average cost curves.The firms produces at lowest average cost in long run than in the short run.
The long run average cost curve is derived from short run average cost curves as shown in the diagram.Suppose,there are three plants available-small,medium and large represented by SAC1,SAC2 and SAC3.
If a firm begins form small plant SAC1 and the demand for the product increase.It can produce output up to ox1 at lower cost.After this the cost increase.If demand reaches ox2,the firm can either continue production small plant or install medium plant represented by SAC2.If demand exceeds ox2,the firm installs medium plant.Because,the output more than ox2 can be produced at lower cost by medium plant than by small plant.
Similarly,the demand exceeds ox3;the firms installs large plant.Because,the output greater than ox3 can be produced at lower cost by large plant.the thick portion of each SAC curve thus shows the lowest long run average cost curve of producing particular level of output.Hence,the scallop shaped thick part of the short run average cost curves is long run average cost curve of the firm.

Detailed reasons

The further reasons for the short run average cost curve being 'U' shaped are as follows:

1.Economies of scale :Alfred Marshal has divided economies of scale into two parts internal economies and external economies.The internal economies arise due to the expansion of the first itself.On the other hand external economies arise to the expansion of the industry as a whole.The internal economies are of following types:

• Technical economies :The technical economies arise from the division of labour and economies in the use of plant and machinery.The division of labour increase efficiency which reduces per unit cost.Similarly,the use of large machinery reduces per unit cost when output is increased.
• Marketing economies :The marketing costs does not very with increase in sales up to certain point.So there is economies is purchase,transport,advertisement when sales increase.
• Managerial economies :The managerial cost decrease as the output increase.This is called managerial economies.A single manager can supervise large production up to certain limit.due to these economies of scale average cost decrease as the output increase.So AC curve is downward sloping in the beginning.This view has been seconded by a most of economists including Chamberlain.

2.Invisibilities :Some of the factors are indivisible such as machinery.The machinery or a manager cannot be cut into half to reduce output.So when the output is increased,these factors are efficiently utilized.This view is held by a host of economies including kanldo,Robinson,Stigler.

3.Law of variable proportions: According to the law of variable proportions if more and more variable factors are used to affixed factor,first the marginal product increases,but after a point,the marginal product declines..In other words,first the cost fall as the output is increased and after point cost increase as the output is increased.In the first stage of production.

Reasons for the 'u' shapes of short-run AC curve

The average cost curve of a firm in the short-run is 'U' shaped.The reasons for the 'U' shape of the short average cost curves are as follows :

1. Simple reason :The short run average cost curve is 'U' shaped due to nature of AFC and AVC curves as explained below.

• Fixed cost:The fixed cost is a constant quantity.The firm will have incur fixed cost even if the output is zero.Hence,the average fixed cost continuously fall as the output rises.On account of this,the average cost falls when output rises.
• Variable cost :The average variable cost varies with quantity output.In the beginning the average variable cost declines when the output increase.But beyond normal capacity,the average variable cost increase sharply.More output can be produced with more variable cost.With increase in output there is problems of over crowding,frequent breakdown of machinery.Consequently,average cost curve rises upwards as shown in the figure.
  

Derivation of short-run average &marginal cost curves

The derivation of short-run average and marginal cost curves an be explained by following elements:

1. Average fixed cost:The average fixed cost can be obtained fixed cost curve.It slopes downwards to the right.As the output increase,the ratio of fixed cost to output decreases.Because,the fixed cost is a fixed quantity.The AFC curve is a rectangular hyperbola.The AFC approaches both the axes but does not touch them.
2. Average variable cost:The variable cost per unit of output is called average variable cost.The average variable cost declines up to the normal capacity.The decrease in AVC in the beginning is due to the operations of law of diminishing returns.After normal capacity,the AVC increase rapidly.The AVC curve in figure represents average variable cost.It slopes downward in the beginning,reaches the minimum point and rises upward thereafter.In general,the AVC curve is'U' shapes.
3. Average total cost :The average total cost is,in fact only average cost.It is the cost per unit of output.The average total cost is obtained by dividing total cost by quantity of output.Alternatively,it may be obtained by adding average fixed cost and average variable cost.ATC is the average total cost.In the beginning,both AFC and AVC fall.So ATC falls rapidly.So ATC continue to fall.But if production is further increased.AVC increase rapidly.Hence,ATC rises after a point.In this way,ATC first falls,reaches minimum point and rises thereafter.Thus the ATC is almost 'U' shaped.
4. Marginal cost:The marginal cost is the addition made to total cost when one more unit is produced.The marginal cost of 2 units of output is obtained by subtracting the total cost of one unit of output from two units of output produced.The marginal cost is the change in total cost due to the change in output.Hence,it is also calculated as :

MC=TC/Q
The marginal cost is independent of the fixed cost.Because the fixed cost does not change with output.The total cost changes due to change in the variable cost.Hence,the marginal cost is also calculated as:
MC=VC2-VC1
As shown in the figure,the marginal cost first,reaches the minimum point and increases thereafter.Hence,the MC curve also first slopes downward,reaches the minimum point and rises thereafter.

Short-run total cost curves

The short run total cost can be explained as follows :

Fixed cost:The fixed cost is also called overhead cost,supplementary cost.The cost incurred in fixed factors is called fixed cost.The fixed cost cannot be changed in the short run.The fixed cost will have to be incurred even if the production is stopped for some time.The expenditure made on machinery,land,building and so on is the example of fixed cost.The curve representing these costs is called fixed curve cost curve.The sum of implicit fixed costs is called total fixed cost.The curve representing this is called total fixed cost curve.

Variable cost:The variable cost is also the prime cost,special cost and direct cost.The expenditures made on variable factors is called variable cost.The variable cost varies with output.The expenditure made on raw materials,wages,fuel are the examples of variable cost.The sum of the expenditures made on variable factors is the total variable cost.The curve representing this is called total variable cost curve.

Total cost:The sum of total fixed cost and total variable cost is total cost.Hence,TC=TFC+TVC.The total cost directly varies with output.Hence,the total cost is expressed as,TC=f(q),where q=quantity of output.The curve representing total cost is called total cost curve.

Fixed and variable costs

The costs that do not with output are defined as fixed costs.These costs will exist even if no output is produced.For example,interest on borrowed capital,rental expenses on leased plant or building,depreciation charges associated with the passage of time,salaries of employees who cannot be laid off during periods of reduced output are fixed costs.On the other hand,costs that very with changes in output are known as variable costs.They are function of the of output level.For example,expense on raw materials,wages,depreciation associated with the use of equipment,sales commissions,and the costs of all inputs that very with output are variable costs.Since all the factors are variable in the long run,so are all costs.
Such a sharp distinction between fixed and variable costs is not always realistic.For example,a salesman's salary might be fixed within a certain range of output,but below a lower limit he might be land off,while above the upper limit additional salesman would be hired.This problem led to the development of semi-variable cost concept.The semi-variable costs are fixed if incremental output does not exceed certain limits,but are variable outside these bounds.
The distinction between these cost concepts is useful in decision making.For example,in the short run a profit maximising firm will continue its operation so long as its total variable cost is covered but in the long run all costs must be covered.

Actual or outlay or costs and opportunity costs

The costs that are generally recorded in the books of account is called the actual costs.They consist of actual expenses of hiring land,labour,capital and management.The opportunity costs is the alternative that has been foregone.The opportunity cost of any good is the next best alternative good that is sacrificed.For example,the factors which are used for the manufacture of car may also be used for the production of military equipment.Therefor,the opportunity cost of the production of car is the output of the military equipment foregone.

The returns which the entrepreneur could have earned in an alternative use of his services and capital is called opportunity or alternative cost.Since the opportunity cost is a national cost,they are not recorded in a book of account.But they are useful for the purpose of decision making.The opportunity cost concept applies to all situation where a thing can have alternative uses.If there are no alternative,the opportunity cost will be zero.If alternative uses are many,the earning in the next best use will be the opportunity cost.According to Pappas and Brigham-"The alternative cost concept,then,reflects the fact that all decisions are based on choices between alternative actions.The cost of resource is determined by its value in its best alternative use."

Concept of costs

It is proper examine the different cost concepts which are useful in managerial decision making :
Accounting costs economics costs:The entrepreneur pays for the factors employed in production in the form of wages,interest,rent, and prices for raw materials,fuel and power.All these are included in cost of production.An accounting will take into account only the payments and charges made by the entrepreneur to the suppliers of various productive services.
The economist's view of cost in different.The entrepreneur invests his own capital,time,managerial talent in business.In the absence of his own business,he would have employed his resources in others business and benefited.The economists,therefor,includes in his cost of production the normal return on money capital invested by the entrepreneur him self and the wages or salary he cloud have earned inf worked for others.Likewise,money rewards for the factors owned and employed in his own business are also included by the economists in the cost of population.
Thus,accounting cost is the costs that cash payments.Economic costs consists of not only all accounting costs but also money on capital,service and mother factors the entrepreneur could have earned if he had invested in next best alternative uses.The accounting costs which is on contractual cash payment made by the firm to factor owners is a also called the explicit cost.On the other hand,the payments made for own service and factors is called implicit or imputed costs.The managerial decision making should be based on economic costs since the economic costs show the real cost of production of a project.