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| Consider a production function q = f (x1, x2) where the firm produces q amount of output using x1 amount of factor 1 and x2 amount of factor 2. Suppose the firm decides to increase the employment level of both the factors 't' times. Then production function exhibits decreasing returns to scale if, |
f (tx1, tx2) = t.f (x1, x2) f (tx1, tx2) > t.f (x1, x2) f (tx1, tx2) < t.f (x1, x2) none |
| f (tx1, tx2) < t.f (x1, x2) |
| We are given the production function q=f(x1,x2). When both the factors x1 and x2 are increased t times, the new amount of inputs used is tx1 and tx2 which when put in the production function should look like this: q=f(tx1, tx2). This function should give us the output as q= t.f(x1, x2). Which means f(tx1, tx2)= t.f(x1,x2). But this will happen only when CRS is operative because in CRS when input is increased by t times, the output is also increased by 't' times. But in the given question, DRS is operative, which means that by increasing factors by t times, final output will be less than t times. So the answer should be f(tx1, tx2)> t.f(x1,x2). |
