Why does production eventually experience diminishing marginal returns to labor in the short run?

A company may employ an additional factor of production. This may be another machine or another employee, or some other factor. Diminishing Marginal Returns then occurs when these factors start producing fewer goods than previously.

Let us take an example:

• An employee costs $20 to hire per hour
• That first employee produces 2 goods
• A second employee is hired and produces an additional 4 goods
• The Marginal Cost to produce 4 extra goods was the employees wage of $20, so each good cost $5. At this stage, an additional employee is still producing a greater level of output.
• A third employee is hired and produces an additional 4 goods.
• A fourth employee is hired but only produces an additional 2 goods.
• We can see from this example that after 4 employees, the Marginal Returns start to diminish
• We can see from this example that after 4 employees, the Marginal Returns start to diminish. So, after 4 workers, there are Diminishing Returns

At a certain point in production, businesses start to become less productive. In economics, this is an important concept as efficiency starts to decrease at this point. Businesses may wish to stop production or re-assess its pricing strategy as the marginal cost increases.

There are many causes of diminishing marginal returns. Examples include:

• Fixed Costs
• Lower levels of Productivity
• Limited Demand
• Negative Impact on Working Envrionment
• Short-run

Diminishing Returns can occur when a business needs to purchase new capital equipment or other fixed cost. For example, a manufacturer may create a new factory, but it may produce less than existing factories – therefore creating diminishing returns.

At a certain point, hiring an additional worker can be counterproductive. For example, 2 staff in a coffee house may be enough. However, a third, fourth, or fifth employee may create a chaotic environment that is inefficient. They may also start talking with each other rather than working on tables.

A firm may hire an additional worker to satisfy demand, but they may not cover the full output that the employee is capable of. For example, an employee may be able to produce 10 units, but there is only demand for 5. Therefore, the employee only produces 5, resulting in diminishing returns. We may see this in local stores which see a low footfall.

On occasion, employing more people can disrupt others. For example, squeezing more workers into the same office may create an uncomfortable atmosphere. Similarly, bringing in a new piece of machinery might create unintended consequences. For instance, it may alter the room temperate, thereby affect the quality of other products.

The law of Diminishing Marginal Returns can only occur in the short-run. This is because all factors are variable in the long-run. For example, having an additional worker in the cafe may create for a chaotic environment. However, the employees may learn to work more efficiently together and therefore produce better returns in the long-term.

Farms are a classic example of Diminishing Marginal Returns, as they have a specific acreage to harvest. Let’s say there are 100 acres and each employee can cover 25 acres each. Only 4 employees are needed, so anything more would bring about Diminishing Returns.

There is also the case for fertiliser use which can help boost growth. Too much fertiliser can start to kill the farms crops, whilst just enough can help increase output.

In Education, students tend to spend roughly 5 to 6 hours in a classroom. Others may spend 2 hours revising every night. However, there is a certain point where students continue to revise but do not digest the information. For example, if student X spends 12 hours straight revising, those last few hours are unlikely to produce any positive results.

At a certain point, we all become bored or disengaged from a topic or subject. After this point, we are driven purely by will power. That is not necessarily the most productive way to learn and will produce Diminishing Marginal Returns in the amount of information we take in.

The Coffee House example shows how too many employees can cause confusion and create inefficiencies. For example, 3 barristers may be working at the coffee shop. They can efficiently serve customers. When another employee is added, there may be communication issues, or they start to get in each other’s way. Two barristers may make the same order without knowing.

To take this example to the extreme; imagine 100 workers crammed into your local coffee shop. As you can imagine, it would be quite chaotic. At a certain point, adding another employee will start to decrease the efficiency of the operation.

As we can see from the diagram, at 3 workers, the gap between marginal profit and marginal cost is at its maximum. However, at 4 workers, the marginal cost of producing an additional unit starts to become more expensive. At this point, we start to see diminishing marginal returns.

What is an example of law of diminishing returns?

Farms are a classic example of Demising Marginal Returns. They have a specific acreage to harvest. Let’s say there are 100 acres and each employee can cover 25 acres each. Only 4 employees are needed, so anything more would bring about Diminishing Returns.
In the same fashion, the use of fertilisers can help boost growth. However, too much can reduce output by killing off the vegetation.

Why does diminishing returns occur?

Diminishing returns occur for a number of reasons such as:
Fixed costs
Less Productive
Limited Demand
Negative Impact
Short-run Effects

How do you define diminishing returns?

Diminishing Marginal Returns occur when increasing production further results in lower levels of output. In other words, production starts to become less efficient.

Why does diminishing marginal returns occur in the short run?

What causes diminishing marginal product of labor?