Kevin has edited encyclopedias, taught history, and has an MA in Islamic law/finance. He has since founded his own financial advice firm, Newton Analytical.
Economists are always interested in helping firms make more money, but how do they actually do that? The concept of short-run production helps explain how economics can really help managers.
What Is Short-Run Production?
Companies have one primary goal of existence. No, it's not to bring you the latest phone or sandwich or film, and it's certainly not to make you happy, keep you healthy, or save the planet. I'm afraid it's much more cold-hearted than that. Companies, from the smallest mom-and-pop shop to the massive behemoths on Wall Street, exist to make money. Now, they may have all those other objectives in mind, but they are all means to the end of making money.
In order to do this, companies have to be realistic. In economics, we refer to this as paying attention to short-run production. Short-run production refers to production that can be completed given the fact that at least one factor of production is fixed. More often than not, this refers to a firm's physical ability to produce, but it doesn't always have to be that. Another way you may sometimes see this concept explained is that firms consider short-run production to be the production necessary to fulfill current contracts.
Now, a contract doesn't have to be some really formal document. Far from it. Did you get a coffee this morning? In the eyes of an economist, you entered a contract with the coffee shop to provide you with caffeine, and probably some cream and sugar to boot. In fact, short-run production for companies like coffee shops is often just the production they can do without expanding operations.
Determining Short-Run Production
In order to really use knowledge of short-run production, it would probably be advantageous for a firm to be able to understand what comprises its short-run production. As you'd imagine, this is not a time for the researchers or the salesmen, since they all deal with factors that cannot yet be realized. Instead, we are interested in what is on the table. Let's say that instead of just stopping at that coffee shop this morning, you owned it. In a given morning, you can hope to serve a few hundred patrons. Therefore, those few hundred patrons are your short-run production. Notice that we are only talking about your one coffee shop. If you decide to expand operations, that drifts out of the realm of short run.
Now, what about the exasperated guy who walks in every morning, huffs and puffs about the line, and then leaves? Obviously, you didn't serve him, but if you had more people working, maybe you could. While your physical space is limited, your ability to do things to increase your efficiency still exist, to a point. Go ahead; hire another barista or buy another espresso machine. That will help your efficiency and help that few hundred increase. But don't forget the law of diminishing returns, which says that too much added labor, or any other resource for that matter, can be a bad thing for output. If you were to hire ten baristas to work the morning shift, they would be tripping over themselves, and the four shiny espresso machines may end up being cracked on the floor.
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Not surprisingly, economists have a way of modeling this sort of thing. By using the short-run production curve, economists can demonstrate the relationship between output and input, in this case regarding labor. It is important to note, however, that any factor of production can be applied to cause this sort of curve. Coffee beans and coffee cups could fill the establishment to the point of not permitting workers to enter, which would obviously harm output. Just as easily, an overabundance of toasters and espresso machines could mean that there was no counter space upon which to actually prepare drinks.
Short-run production curve
Notice how quickly output rises with the addition of the first few new workers. This makes sense - doesn't your local coffee shop work faster when they have one person taking orders and the other making the drinks? In fact, isn't it even more efficient when they have two people making the drinks? That is apparent from this graph.
However, by the time that barista five or so has been added, they are really just tripping all over each other. Sure, there might be a slight increase in efficiency, but nothing compared to the earlier jumps. Then, at some point, there are simply too many people to work with, and output plummets. The first one may simply result in another barista tripping on the floor, but soon there is literally no room to turn around. Not surprisingly, this graph demonstrates that point just as effectively as putting ten baristas behind the counter, but this time with no spilled coffee.
In this lesson, we looked at short-run production, or the production that firms do with at least one fixed input in order to complete current contracts. We saw how, for many firms, this means the capacity of a specific location, whether it's a factory or a coffee shop. We also saw the importance of diminishing returns in increasing short-run production in that too many baristas could drastically reduce overall output.
This lesson on short-run production will strengthen your capacity to:
Provide the definition of short-run production
Understand how businesses can analyze their short-run production
Expound upon the relationship between short-run production and the law of diminishing returns
Discuss the utility of a short-run production curve
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