The Law of Diminishing Returns/Variable Proportions
This states that, other things being equal – e.g. given technology, socio-cultural environment, etc. – as more and more units of a variable input (say, labour) are employed in combination with a fixed input (say, capital), initially Marginal Product (MP) increases, but eventually, it diminishes.
The following are the conditions under which the law operates:
- The law is a short-run phenomenon where the producer uses fixed and variable inputs. All other inputs apart from the variable input are held fixed in quantity.
- The variable input may be any factor usually used in production (e.g. labour).
- The variable input is applied unit by unit, and each unit is identical in quantity and quality.
- It applies in any production sector such as agriculture, manufacturing, retailing, advertising, mining, etc.
It is a law that describes the behaviour of the Marginal Product (MP). Therefore, it is the MP that eventually diminishes and it does so only after increasing. When fixed and variable inputs are combined to produce a product, the fixed input (capital) helps the variable input (labour). The marginal output of the variable input depends on the amount of the fixed input the variable input has received. In the first instance, if the amount of the fixed input received by the variable input is relatively plentiful, the marginal output of the variable input increases.
In the second instance, as the variable input increases beyond a certain unit, they obtain less and less amounts of the fixed input to combine with which leads to a decrease in marginal output. Each extra unit of the variable input adds less and less to total product. In the third instance, if the employment of more and more units of the variable input continues, there will be a cluster of the variable input such that the amount of fixed input each unit of variable input gets to combine with becomes insignificant, invariably turning negative.
There is a certain optimum combination of fixed and variable inputs which, when exceeded, will bring about diminishing returns. The law of diminishing returns, otherwise known as the law of variable proportion is important because it helps the producer to determine the best proportion in which to combine the fixed and variable inputs. If the MP is increasing it means there is too much of the fixed input in combination with the variable input. If the MP falls to zero, there is too little of the fixed input. This guides the producer in determining the best proportion between the fixed and variable inputs.