Production in economics generally refers to the transformation of inputs into outputs. Inputs are the raw materials or other productive resources used to produce final products i.e., output. In technical terms, production means the creation of utility or creation of want-satisfying goods and services. Any good become useful for us or satisfies our want when it is worth consumption. Thus, a good can be made useful by adding utility. For instance, we cannot consume wheat flour raw when we are hungry (want), unless it is turned into bread (output). This conversion of wheat flour into bread is the process of creating utility. Utilities can be created in three ways. These are the following:

1.     By changing form or shape and size of a good. The powdery wheat flour has been changed to slices of bread. Thus form of the good has been changed. Likewise, a carpenter giving shape of a chair to a piece of wood or a chef turning a lump of dough into delicious pizzas, are the examples of changing shape or size of a good/s and thereby creating utility.

2.     Using the scarce goods and services in proper time when they are most required. Government maintains a buffer stock so that during the time of crisis, it releases food grains in the market to meet the demand.

3.     By transferring a good from one place to another where its use is worthwhile. Sand transferred from river side to construction site increases its utility.

Thus, production is the process of adding utility to a good through form utility, place utility and time utility.


Production function is defined as the functional relationship between physical inputs and physical outputs. According to Stigler, “the production function is name given to the relationship between the rates of input of productive services and the rate of output of product. It is the economist’s summary of technological knowledge.” Production function can be expressed as follows:

Q  = f (ab, cd…)

Where, Q stands for output, a, b, c, d…. are the productive resources or inputs that help producing Q output; f refers to function. Thus Q is the function of a, b, c, d….., which means Q depends upon a, b, c, d…..

Thus a production function shows the maximum amount of output that can be produced from a given set of inputs in the existing state of technology.


There are generally two types of production functions mostly used in economics. First, the production function when the quantities of some inputs are kept fixed and the quantity of one or few input/s are changed. This kind of production functions are studied under law of variable proportions. These are also called short-run production function. The short-run is a period during which one or more factors of production are fixed in amount. There is no time to change plants or equipments of an enterprise.

Secondly, the production functions in which all inputs are changed. This forms the subject matter of the law of returns to scale. These are also called long-run production function. The long run is a period during which all factors become variable. A new plant can be constructed in place of an old one.

Law of Variable Proportions/Law of Diminishing Returns

Law of variable proportions occupies an important place in the economic theory. It examines the production function with one factor variable, keeping the quantities of other factors constant. This law tells us how the total output or marginal output is affected by a change in the proportion of the factors used. The law states that when one factor is increased keeping others fixed, the marginal and average product eventually declines. According to Stigler, “As 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 products will diminish.” Thus, an increase in the quantities of a variable factor to a fixed factor results in increase in output to a point beyond which it eventually declines.

Assumptions of the law

The law assumes the following:

1.     The state of technology is assumed to be constant.

2.     There must be some inputs whose quantity is kept fixed.

3.     The law is based upon the possibility of varying the proportions in which the various factors can be combined to produce a product. It cannot be applied to the cases where the factors must be used in fixed proportions to yield a product.

Returns to Scale

Scale of production relates to size of plant. Every entrepreneur has to decide about the size of his plant or business. The question is how large a business should be. Because up to a certain size of plant what is called ‘economies of scale’ take place. Economies refers to benefits arise due to the expansion of a business. Economies of scale can be broadly divided into two categories-internal and external. Internal economies are caused by some internal factors, which arise within the firm and are not shared by other firms. Use of better technology, purchase of raw materials at cheaper rates and selling the final goods at high price, easy availability of finance from financial institutions etc, are some examples of internal economies/benefits that a firm enjoys. External economies are those advantages which are available to all firms located in an area. Development of transportation, good and fast communication, good banking and insurance facilities, etc are the examples of external economies. Too big or too small size of plant or business is not viable in the economic sense. Optimum scale, which at least covers up cost per unit of output, is more desirable than too small or too large plant.