Beginners’ Guide to the Law of Diminishing Returns

The below mentioned article provides a beginners’ guide to the law of diminishing returns.

This article will help you to understand the following things:- 1. Introduction to the Law of Diminishing Returns 2. Definition of the Law of Diminishing Returns 3. Assumptions 4. Causes of the Operation of the Law 5. Importance and Others. 

Introduction to the Law of Diminishing Returns:

In all the Laws of Returns, the position of the Law of Diminishing Return is very important.

This law is based on the experience of human life. The feeling regarding this law was felt by a farmer of Scotland but the scientific shape of this law was given by Turgot.

He has written that “A doubling of the capital invested in the agriculture would not double the yield.”

As the area of land is limited. Its productive power is also limited. Every farmer wants to yield more and more from his land. For this he works very hard. He put more and more units of labour and capital for more production. From past experience it is known that the productive power of land is limited. If this was not the condition then no country would have faced the food problem. The reason is that the Law of Diminishing Return applies in the field of agriculture.

Definition of the Law of Diminishing Returns:

1. According to Benham—”As the proportion of one factor in a combination of factors is increased, after a point, the marginal and average product of that factors is increased, after a point, the marginal and average product of that factors is increased, after a point, the marginal and average product of that factor will diminish.”

2. According to Silverman – “After a certain point, an increase in the capital and labour applied in proportion, causes a less than proportionate increase in the amount of the product.”

3. According to Marshall – “An increase in the capital and labour applied in the cultivation of land causes in general, a less then proportionate increase in the amount of produced raised, unless it happens to coincide with an improvement in the art of agriculture.”

On the basis of the definition of Marshall, following are the important characteristics of the Law of Diminishing Returns:

(i) Law of Diminishing Returns applies only in the field of agriculture and not in other industries like mines, fisheries, building construction etc.

(ii) The relationship of this law is with the quantity of production and not with the price.

(iii) The law will be applicable only when one means of production is fixed and other means are variable.

If all means of production are fixed or all means of production are variable then this law will not work properly.

Suppose, if agriculture is done on a piece of land and the quantity of labour and capital is increased then in the proportion in which it has been increased in that proportion the return will not increase. The marginal return goes on decreasing. The total return increases but the marginal return decreases. In Economics this is known as ‘Law of Diminishing Returns’.

For example:

From the table given above it is clear that a farmer cultivates a small piece of land. He applies some capital and labour to his farm. When he applies first unit of labour and capital he produces 30 Quintals. The second unit increases to 50 Quintals the extra capital and labour produces (50 – 30) = 20 quintals.

From the third 15; from 4th and 5th unit 10 quintals and 5 quintals are marginal product. From the study of the table given above by the introduction of additional capital and labour the total unit increases from the marginal unit decreases. This reduction in the product is only because of the destructive powers of the soil. This trend in agriculture is called the Law of Diminishing Returns.

This can be re-presented by diagrammed as follows:

In this diagram on OX axis labour and capital unit and on OY axis Marginal product in quintal has been shown. AB shows Diminishing Return. This picture shows that as the unit of labour and capital goes on increasing marginal productivity goes on decreasing.

While discussing this law Mrs. Joan Robinson in her book has written—”Law of Diminishing Return states that if any one means is static then the rate of quantity of other means will increase in a reducing rate.” Law of Diminishing Return is applicable in all the fields of production. Every farmer has also realised this point that after some time and after a certain point increase in production will be at a reducing rate.

Assumptions of the Law of Diminishing Returns:

Some important assumptions and limitations of the Law of Diminishing Return are as follows:

1. There need not be any Improvement in the Art of Agriculture:

No new methods of agriculture be adopted or no improvement in the quantity of the seeds, high quality chemical fertilizers or new technological improvement in the agriculture need not be used. Uniform system is adopted throughout the agriculture production.

2. This Law Applies after a Certain Production:

This law does not apply in the beginning. In the beginning there will be law of increasing return, then constant return and then diminishing return will operate.

3. The Quantity of Land should be Constant and Fixed:

This law will operate when the quantity of land is kept fixed and then other means like Labour and Capital’s quantity is increased. If this has not been followed then instead of diminishing return the law of increasing return will operate.

4. There should be Uniformity in the Various Factors of Production:

There must be uniformity in the variable factors of production. Variable factors mean all factors which are used in production.

5. This Law is Concerned with Marginal Production and not with Total Produc­tion:

For operation of this law, we have to see and observe marginal quantity of production and not the total quantity of production.

6. This law is Concerned with the Physical Quantity of the Production and not with its Price:

Under this law quantity of production is kept into consideration and not the price. Because in Diminishing Return when production will go down the price may increase and the goods which are available may fetch higher price.

Causes of the Operation of the Law of Diminishing Returns:

Important causes of operation of the Law of Diminishing Returns are as follows:

1. Prominence of Nature in Agriculture and Primary Industries:

Dr. Marshall has pointed out that the part which nature plays conforms to diminishing returns and the part which man play brings in increasing return. It has been said by economist that nature is supreme in agriculture, where-as man dominates in manufacturing industries.

2. Fixed Supply of the Factors:

Supply of some means are fixed, therefore, this rule applies. For example—The supply of land is fixed and if more of labour and capital is introduced in the same land the Law of Diminishing Return is bound to operate.

3. Misuse or Improper Use of the Factors of Production:

Economists are of this opinion that proper and optimum use of the factors of production should be made. If proper use has not been made then the law will operate.

4. Lack of Perfect Substitutability between Factors:

In this all means of production are not perfect substitutes to each other. Therefore, by increasing one factor the loss of another factor cannot be completed. For example—By increasing the supply of labour, the shortage of land cannot be met, therefore, the Law of Diminishing return is bound to operate.

5. Dis-economies in Production:

If the production is increased without considering its effects, then there will be dis-economies and the Law of Diminishing Return will start operation.

Application of the Law of Diminishing Returns in Different Fields:

The Law of Diminishing Marginal Return does not apply in agriculture alone. Prof. Marshall says that this law is limited to agriculture only but actually this is not the case. In the present age this law has become a general law and is applicable to other industries also besides agriculture.

1. In Mining Industries:

Law of Diminishing Return is applicable in mining industries also. The amount of materials in the mine is limited. In mining industries as more labour and capital is applied, so the level of depth has to be increased. As the depth increases the expense and difficulties start increasing. As more labour and capital is applied the marginal utility of mine goes on decreasing.

2. In Fisheries:

This law is applicable in fishing also. Limited area is the chief reasons of it. In fishing as more labour and capital is increased the marginal utility goes on decreasing. The reason is that the quantity of fishes goes on decreasing day by day.

3. In House Building Industry:

The Law of Diminishing Return is also applicable in house-building industry. This law is applicable specially in the Case of multi-Storeyed building. As labour and capital is applied for building the materials has to be carried higher and higher. The proportion of utility ascertained is not equal to the proportion of labour and capital used.

4. In Forest Industry:

The law also applies in forest industry, first the wood of nearer place is taken and cutting goes on but as the wood of nearer place in exhausted, going to deep forest for wood would involve more expense and thus the Law of Diminishing Return starts operation.

5. In Manufacturing Industries:

Prof. Marshall’s concept is that this law is not applied with regard to manufacturing industries. According to Marshall in these industries several internal and external benefits are required due to scientific inventions, division of labour and use of machines. So the cost of production decreases and marginal utility increases instead of decreasing.

Modern economists do not agree with the Marshallian view. They are of this opinion that this law is applicable in manufacturing industries also. The difference is that in agriculture this law applies more quickly as compared to that of manufacturing industries. So it is clear that in manufacturing industries also as labour and capital is increased the marginal utility goes on decreasing after a certain limit.

6. In Intensive and Extensive Cultivation:

The Law of Diminishing Return operates in both intensive and extensive cultivation. If more and more labour and capital are applied to the same piece of land, the return per dose diminishes after some time. Thus, the law applies to intensive cultivation. But if on the other hand the farmer brings more and more land under cultivation even then the returns will decrease.

It is because, either the new land is inferior (otherwise, it would have been cultivated first) or because it, is at a distance and in which the cost of transport increases the cost of production. Thus, the Law of Diminishing returns also applies where cultivation is carried on extensively.

From the following diagram it can be learnt that the law represents in an intensive form:

But the same diagram can be made to represent the extensive form too ; if instead of the doses being measured along OX, we can measure the acres of land.

Modern Views on the Law of Diminishing Returns:

It is the view of Marshall and other classical economists that the Law of Diminishing Returns is mostly applicable to agriculture only. But modern economists have expressed it can be applied to any field of production. But the only condition of its application is that any one means of production must be fixed or static or scarce. Therefore, this law is the result of fixed and variable factors.

This law has been called by Prof. Stigler as the law of variable proportion. He has further stated that—”an equal increments of one input are added, the inputs of other productive services being held constant, beyond a certain point, the resulting increments of product will decrease i.e., the marginal product will diminish.”

In this connection Prof. Benham has expressed his view that—”As the proportion of the factor in combination of factor’s is increased, after a point, the marginal and average product of that factor will diminish.” In support of the views of Prof. Benham and Prof. Stigler Mrs. Joan Robinson has written that —”the Law of Diminishing Return as it is usually formulated states that with a fixed amount of any one factor of production, successive increases in the amount of other factors will, after a point, yield a diminishing increment of the product.”

From the opinion of the above economists following three inferences can be drawn:

(i) The scope of this law is wide and comprehensive. This is not applicable in agriculture only but also in manufacturing industries.

(ii) This law will be applicable when out of the means of production one mean’s is kept fixed and others are increased or reduced.

(iii) This law will operate when marginal product or the average product is reduced.

Why the Law of Diminishing Return Operates in Agriculture:

There are several reasons for it and important among them are as follows:

(i) Agriculture is mostly under national influences like climate, rainfall, environment and weather conditions. Therefore, the human efforts may be neutralized by adverse natural influences.

(ii) Agriculture operations are spread over a large area and supervision becomes difficult and problem. Therefore, this reduces the yield.

(iii) In agriculture there is little and limited scope of the use of machinery, thus the use of specialised machinery cannot be obtained in agriculture.

(iv) The scope of division of labour is limited in agriculture. Hence the advantages of division of labour have no importance and thus diminishing return sets in.

(v) The productive capacity of the soil goes on reducing and is exhausted and thus it gives less yield. This leads to the operation of the Law of Diminishing Return.

(vi) The work of agricultural labour is of intermittent nature. This adds to the cost of cultivation.

(vii) All lands are not equally fertile. If cultivation is extended to inferior or low yield lands, the returns per acre must diminish. This means diminishing return will operate.

Further, it can also be stated that agricultural yields are very poor in India because rainfall is uncertain, methods of cultivation are old and traditional and the peasants are poor to invest capital in land. Irrigation facilities are also inadequate.

Hence, the Law of Diminishing returns applies to Indian agriculture. Unless these defects are not removed or some alternative methods is not adopted the agricultural yield in India will not improve in comparison to other countries.

Importance of the Law of Diminishing Returns:

Law of Diminishing Return is a very useful and basic law of economics; various principles of economics are based on it. Regarding its importance Wick-steed has written—”This law is universal as the law of life itself.”

In this connection Cairness has said—”In the absence of the Law of Diminishing Returns, the law would be as completely revolutionised as if human nature itself were altered.”

This law has been called the base of:

1. It is the base of Malthusian Theory of Population.

2. It is the base of Ricardian Theory of Rent.

3. It is the base of Marginal Productivity Theory.

4. It helps in the determination of the optimum size of business unit.