by Law of Variable Proportion, also known as the Law of Diminishing Returns, is a fundamental principle in microeconomics that explains how the output of a production process changes when the quantity of one input is varied, while other inputs are kept constant. It is applicable in the short run, a period during which at least one factor of production is fixed (e.g., land or capital), and only the variable factor (like labor) is increased.
According to this law, when more units of a variable factor are applied to a fixed factor, the total output initially increases at an increasing rate, then increases at a diminishing rate, and finally starts to decline. This behavior reflects the three stages of production: increasing returns, diminishing returns, and negative returns.
In the first stage, additional input leads to greater efficiency and utilization of the fixed factor, so the marginal product (MP) rises. In the second stage, the fixed factor becomes a constraint, and the MP starts to fall though total product (TP) still rises. In the final stage, adding more of the variable factor leads to inefficiency, and both MP and TP decline.
This law is crucial for firms to optimize resource allocation, determine the most productive input level, and avoid wasteful production. It helps businesses understand the productivity behavior of inputs and serves as a guide for short-term production decisions.
Assumptions of the Law of Variable Proportion:
- Only One Input is Variable
The law assumes that only one factor of production—such as labor—is variable, while all other factors like land and capital remain fixed. This helps in analyzing how output changes when more units of a single input are added to a constant quantity of fixed inputs. This assumption is crucial for isolating the effect of the variable factor on production. It reflects real-world short-run conditions, where firms usually adjust labor or raw materials but not factory size or capital equipment.
- All Units of the Variable Factor are Homogeneous
Another key assumption is that every unit of the variable input (e.g., labor) added is identical in skill, efficiency, and productivity. This ensures that any changes in output can be attributed solely to the law of variable proportions rather than differences in the quality of the input. If input units differ in efficiency, it would be impossible to measure the true effect of increasing the input, making the law’s conclusions unreliable or distorted.
- State of Technology Remains Constant
The law assumes that technology remains unchanged during the production period. Any advancement in technology could increase productivity and alter the marginal returns, thereby invalidating the observation of diminishing or negative returns. Constant technology ensures that changes in output are due to input variation alone, making the results more precise. In real economic scenarios, technology evolves, but in the short run, it is often reasonable to treat it as fixed for analytical purposes.
- Fixed Input is Used Efficiently
It is assumed that the fixed input (like land or machinery) is used optimally and is not underutilized. This is essential to ensure that the variable factor is the only reason behind the changes in output. If the fixed factor is not fully utilized from the beginning, any increase in output may be due to better use of the fixed resource rather than the law of variable proportions. Hence, efficient use of fixed inputs is necessary for accuracy.
- No Change in the Price of Factors
The law presumes that the prices of both fixed and variable factors of production remain unchanged during the analysis. If factor prices fluctuate, they can influence the producer’s decision to employ more or fewer inputs, thereby affecting output independently of the law. A constant price level ensures that the focus stays solely on the relationship between input quantity and output, and not on cost considerations, which belong to a different line of economic study.
- Short-Run Operation Period
The Law of Variable Proportion is applicable only in the short run, a time frame in which some inputs are fixed and cannot be changed. Firms can increase only the variable factors in the short run, such as labor or raw materials. The law does not apply to the long run where all factors become variable. This short-run perspective is critical because it represents realistic business conditions where firms face limitations in adjusting all resources immediately.
- Divisibility of Inputs
It is also assumed that the variable input can be increased in small, divisible units. This allows for precise analysis of changes in marginal and total productivity at each level of input addition. If inputs cannot be varied incrementally, it would be difficult to observe the gradual effect of input changes on output. The divisibility of inputs makes it easier to apply the law in practical production settings and to measure marginal changes effectively.
Phases/Stages of the Law of Variable Proportion:
The Law of Variable Proportion describes how output behaves when one input (like labor) is increased while others (like land or capital) remain fixed. This law applies in the short run and shows how total, marginal, and average product change in relation to variable input. The law operates in three distinct stages: Increasing Returns, Diminishing Returns, and Negative Returns. Each stage reflects different productivity levels of the variable factor due to fixed resource constraints and changing efficiency. Understanding these stages helps businesses optimize input use and avoid inefficiencies in production.
Stage 1: Increasing Returns to the Variable Factor
In this stage, output increases at an increasing rate as more units of the variable input are added to the fixed input. Both Total Product (TP) and Marginal Product (MP) rise, and MP is greater than the previous unit. This occurs because the fixed factor is being underutilized and more variable input allows better coordination, leading to higher productivity. This stage reflects efficient use of resources, specialization, and division of labor. Firms generally prefer to operate in this stage until optimal resource utilization is reached. It ends when MP reaches its maximum point.
Stage 2: Diminishing Returns to the Variable Factor
Here, TP continues to rise but at a decreasing rate, while MP begins to decline. Although output increases with additional units of the variable input, each unit adds less than the previous one. This happens due to the overutilization of the fixed factor, which starts limiting the effectiveness of the variable input. The firm begins to experience congestion, inefficiency, or bottlenecks. Despite diminishing productivity, firms usually operate in this stage because TP is still rising. This stage ends when MP becomes zero, and TP reaches its maximum.
Stage 3: Negative Returns to the Variable Factor
In this final stage, Total Product begins to decline, and Marginal Product becomes negative. This means that adding more units of the variable input not only reduces productivity but also lowers the total output. Overcrowding, excessive labor, and inefficient use of fixed resources lead to losses in productivity. Firms avoid operating in this stage because it results in waste and increased costs. Negative returns highlight the limit of the production system under current fixed inputs. This stage clearly indicates the need to either stop adding more input or increase the fixed factor.
Graphical Representation:
- The TP curve rises, flattens, and eventually falls.
- The MP curve rises initially, peaks, declines, and then becomes negative.
- The Average Product (AP) curve follows a similar pattern to MP but does not fall below zero.
Importance in Business:
- Helps in optimizing resource allocation.
- Guides short-term production decisions.
- Assists in understanding efficiency limits.
- Helps firms determine the ideal input combination.
