Law of Diminishing Marginal Productivity

The economic law of diminishing marginal productivity is an economic principle that must be considered by managers in productivity management. Generally, it states that any advantage gained from slight improvement on the input side of the equation will only advance to a point. After this point, additional input will not increase productivity.

As an example, a factory is able to create more widgets if the add additional employees. But at a point, more people on the production line will not produce more widgets, and may actually slow the process as workers do not have the necessary room to function.

Companies may choose to alter variable inputs in the factors of production for various reasons, many of which are focused on costs. In some situations, it may be more cost efficient to alter the inputs of one variable while keeping others constant. However, in practice, all changes to input variables require close analysis. The law of diminishing marginal productivity says that these improvements have limitations.

Marginal productivity refers to the extra output yielded by advantages from production inputs. Inputs include labor and raw materials. The law of diminishing marginal returns states that when an advantage is gained in a factor of production, the marginal productivity will typically diminish as production increases. This means that the cost advantage usually diminishes for each additional unit of input produced.

• Diminishing marginal productivity is typically detected when advantageous changes occur in input variables affecting total productivity.
• Production managers consider the law of diminishing marginal productivity when improving variable inputs for increased production.
• According to the law of diminishing marginal productivity, input cost advantages typically diminish as production levels increase.

Diminishing marginal productivity is not necessarily the same as diseconomies of scale, which are the result of rising long-term average costs. With diseconomies of scale, companies don’t see a cost improvement as they increase production. This may be the result of rising input costs across production or from a single input variable. Diseconomies of scale can also occur when a firm is growing. As it grows, the added costs of growth may burden production. Some examples of this can include overcrowded production facilities, increasing operational inefficiencies, poor communication among departments, duplicative roles, and the lack of important oversight 

At times, diseconomies of scale may be a parallel concern but it does not necessarily indicate a problem of diminishing marginal productivity since diseconomies of scale usually are not associated with marginal production improvements. Overall however diseconomies of scale may become a follow-on concern of diminishing marginal productivity if variables to production begin to cause cost increases collectively.

In its most simplified form, diminishing marginal productivity is typically identified when a single input variable presents a decrease in input cost. A decrease in the labor involved with manufacturing a car for example, would lead to marginal improvements in productivity and profitability. However, the law of diminishing marginal productivity suggests that for every unit of increased production, managers will experience a diminishing productivity improvement.

Diminishing marginal productivity is also often the result of a benefit threshold being exceeded. For example, consider a farmer using fertilizer as an input in the process for growing corn. Each unit of added fertilizer will only increase production up to a threshold. At the threshold level, the added fertilizer does not improve production and may harm production.

In another scenario consider a business with a high level of customer traffic during certain hours. The business could increase the number of workers available to help customers but at a certain threshold the addition of workers will not improve sales and may even cause a decrease to total production levels.