It has three phases: (a) diminishing returns (b) constant returns, and (c) increasing returns
management of a farm business. It is a law of fundamental importance in agriculture. This law describes the relationship between output and a variable input when other inputs are held constant. The law can be stated as follows: "If increasing amounts of one input are added to a production process while all other inputs are held constant, the amount of output added per unit of variable input will eventually start decreasing." It states that if the quantity of one factor is increased with quantities of other factors held constant, the marginal increment to the total product may increase or remain constant at first but will eventually decrease after a certain point. The operation of this law can be, however, delayed by improvements in technology and /or improvement in managerial ability. Ultimately this law must operate in the practical world. The level to which yields per acre , milk per cow or weight per poultry bird should be pushed are the kind of questions which involve the law of diminishing returns. It is, thus, an important point in farming to decide the level to which a farmer should push his output per acre or per cow, etc. to secure the maximum possible profit. This principle of returns is also important in specifying how large a farm should be or how much labour and/or machinery be added. In this context resources can be classified as variable resources and fixed resources. For example, an acre would be a fixed resource with the farmer, but fertilizer would be a variable resource. As addition quantities of fertilizer are given to an acre of crop, the return to each additional dose will eventually become lesser and lesser. When diminishing returns hold true, it is seldom profitable to produce a maximum yield per acre or milk or meat per animal, although exceptions might exist.
It can be said that the quantity of a variable resource applied to a fixed acre of land or given head(s) of livestock adds less and less to the yield or output. Examples are application of seeds, fertilizers, irrigation , etc. which have a characteristic of diminishing marginal productivity.
There are some farmers who lose sight of diminishing returns to variable factor-use and consider the highest yield per acre, the highest milk yield per cow etc. always to be the best level in terms of profit. This way they think only in terms of physical yields and not in terms of costs and profit. True, many farmers would need to raise their production levels in order to increase their profits, but they must consider cost also at some point. One can easily decide the level of resource use or level of production by using the following profit rule under the conditions of diminishing returns. Keep adding variable resource(s) to the fixed resource(s) as long as the added return is more than the added cost. As an example, a farmer might want to know how much fertilizer should be added to one acre of paddy to maximize his profits, the price of paddy being Rs.50/- per quintal and price of fertilizer Rs.30/- per unit and physical input-output data on paddy yield response to fertilizer given as in table
Marginal Cost and Marginal Returns Analysis of Paddy Yield Response
to Application of Fertilizers
Analysis begins with comparing marginal or added costs and added returns. One should stop applying additional doses of fertilizer where the fertilizer cost is just balanced by the added returns.
As shown in table the optimum level of fertilizer to be used in this case is 4 units. Beyond this level the marginal return is less than the marginal cost. If we calculate total profit at each unit of fertilizer, as given in last column, we observe that the net returns/profits per acre are the highest (Rs.455) at four units of fertilizer use. One may not go up to the last profitable unit because apart from the cost of the input (fertilizer units) there may be some indirect costs such as costs of spreading of the fertilizer and extra cost on bigger harvest etc. In practice, therefore, even an economic farmer would apply fertilizer a little below this break-even point. Such simple exercises for taking day to day operational farm decisions can save the farmer from many losses and increase his net returns from the farm business. This principle, should be , therefore, helpful in making decisions such as:
amount of the output to the total production. Though diminishing marginal productivity is the rule, constant productivity is frequently observed when no resource is fixed and all are increased together in the same proportion. For example, another acre may be as productive as the first with same inputs. If one acre of wheat requires 20 man-hours of labour, 30 kgs. Of seed and 13 inches of irrigation water and yields 10 quintals of wheat, the second acre will require additional 20 man-hours of labour, 30 kgs. Of seed and 13 inches of irrigation water and will also yield 10 quintals of wheat. The second acre is just as productive. The marginal or added production from each increase in resource input is the same: this is a case of constant productivity.
Another case is when one or more resources are fixed but have excess capacity. For example, family labour or a farmer may not be fully employed. A storage godown may have surplus capacity. A tractor may be big enough to control 50 acres holding but the farmer may have only 27 acres. If variable input is added to such a resource-mix situation, constant returns may result.
Under constant productivity, each unit input increase is just as profitable as another. Under such conditions the profit rule is: If production is profitable on first unit, keep producing till the constant returns hold. Do not produce at all, if production is not profitable on first unit. In a sense, follow the same principle i.e. continue adding the variable resource to the fixed resource(s) as long as the return is greater than the added costs.
Limits on constant returns are reached as some of the factors become fixed. If nothing else becomes fixed, management becomes a fixed resource. The productivity of one resource, depends on the amount of the other(s) with which it is used. For example, if capital is fixed at a low level for the farm as a whole , labour productivity will be lower. Since the productivity of one resource depends on the amount of other resource(s) with which it is combined, farmers having different quantities of land , capital , labour and management will have different programmes. What is best for one farm is, therefore, seldom best for the other(s). Each farmer must get the right balance of resources and a unique optimum farm organization consistent with the resources he has.
(c) Increasing returns: There are few cases in farming business where increasing productivity may be found. Increasing productivity means added resources give increasing returns. This relationship may hold only over a very limited range of production and is applicable when all resources are increased together and not when some resources are fixed. For example, a cattle shed constructed for 30 cows may cost more per cow than if one is constructed for 60 cows, the cost involved in the latter case may not be double because of some economies on account of joint walls etc., but the gross returns per cow might be the same. Use of added resource(s) thus, will give increasing returns in such case. In this case each additional unit gives higher and higher returns. So long as this relationship holds, production should keep expanding.