Working hard: Measuring labor productivity

Chapter 6: Production Magic: Pulling a Rabbit Out of the Hat

Being limited in the short run

In the short run, some inputs are fixed and some inputs are variable. So, you can adjust some, but not all, of your inputs in order to change the quantity of output produced. With the increased demand for hats, you can change the labor in the short run — labor is a variable input — while you can’t change the size of the factory — the factory is a fixed input.

Looking forward to the long run and life without limits

In the long run, all inputs can be changed and thus are variable. So in the long run, even building an entirely new factory is possible. But the relationship between the long run and your calendar varies from industry to industry. For a restaurant, you can probably start from scratch and have the restaurant open within six months. Thus, the long run in the restaurant industry is six months. For a power company, building a new power plant may take six years or more; thus, the long run is at minimum six years. Because all inputs are variable in the long run, your business can change anything it wants — you have no limits on what you can change.

Defining the Production Function: What Goes in Must Come Out

A production function specifies the relationship that exists between inputs and outputs for a given technology. In general terms, a production function is specified as

where x1 through x n represent the various inputs in the production process, and q represents the quantity of output produced. If you have only two inputs in the production process — labor, L, and capital, K — you write the production function as

The specific function described by a general statement may have many forms. For example,