Properties of isoquants, Microeconomics

1. Isoquants are negatively sloped because if the quantity of factor 1 used in production is decreased then the quantity of the other factor must be increased to produce the same amount of output.

2. Isoquants are convex to the origin. This is because of the principle of diminishing MRTS which states that as the more and more L is substituted by K, the MRTS decreases. Note that this principle is an extension of the law of diminishing MP.

3. Higher isoquants indicate greater output yield.

4. Isoquants do not intersect.

• Elasticity of Substitution: This is measures the relative change in the input ratios in response to the change in the MRTS. It is calculated by dividing the percentage change in L/K by the percentage change in the MRTS of K for L.

• Returns to Scale :

• Increasing returns to scale (IRS).- This implies that if all the inputs of the firm are increased λ times then more than λ times output will be produced.

• Constant returns to scale (CRS)- If a firm increases the amount of all of its inputs λ times and output also increases λ times then the production function exhibits constant returns to scale,

• Optimum Choice of Firms: The most important decision to be taken by a firm is about the amount of output to be produced. The objective of all firms is to maximize profit. Profit is the total revenue earned by the firm minus the costs incurred during production. Given the price of the product, the revenue of the firm depends on the amount of the product produced. In order to maximize profit, a firm must minimize the costs of production given a level of output or it must maximize the output produced given the total expenditure. Therefore, the optimal choice of factor combinations depends on the technological possibilities of production, which we have examined in the previous sections, and the prices of factors.

Posted Date: 3/13/2013 12:44:05 AM | Location : United States







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