Returns to a variable factor and returns to scale
Returns to a variable factor refer to the behaviour of output when quantities of one variable factor are increased keeping other factors fixed. Since the proportion between variable factor and the fixed factors change, this law is also called the law of variable proportion. The law usually operates in short period.
Returns to scale refer to the behaviour of output when all the factors are changed simultaneously and in the same proportion. This changes the scale of production and the capacity to produce. That is why this law is called the law of returns to scale. Here the factor proportion remains constant. The law operates in the long period when all the factor inputs are changeable.
Difference. The difference between returns to a variable factor and returns to scale are summed up as below:
(i) In the former (returns to a variable factor) only one factor is changed keeping other factors fixed whereas in the latter (returns to scale), all the factors are changed in the same proportion.
(ii) The former usually happens in short period wherein level of production can be changed whereas the latter operates in long period wherein scale of production can be changed.
(iii) In the former, the ratio between the variable factors and fixed factors changes whereas in the latter, the factor ratio remains constant.
(iv) The former indicates three stages, i.e., increasing, diminishing and negative returns but in the latter, returns can be increasing, constant and decreasing.
(v) In the former increasing returns are due to (a) Optimum use of fixed factor, (b) Specialisation, and (c) Volume discount. In the latter increasing returns are due to internal and external economies of scale.
(vi) In the former, increasing and constant returns may or may not appear but diminishing returns are certain. As against it, all the three phases of returns appear in the latter (returns to scale).
(vii) In the former, scale of production remains unchanged whereas in the latter, scale of production changes.
Conclusion. Returns to a variable factor examine the effects on output when only one factor is increased while assuming other factors to be constant. Returns to scale examine the effects on output when all the factors are increased simultaneously in the same proportion.
Tabular presentation. The above mentioned three stages of returns to scale are further clarified with the help of an imaginary following table, presuming that the firm is employing only two factors, namely, labour and capital (machines), capital in machine-hours and the commodity in metres. It is presumed that according to the following table, combination of 2 units of labour and 1 unit of machine produce 200 metres of cloth in the beginning.
The above table indicates increasing returns from Ist to 3rd combination of inputs; constant returns from 4th to 6th combination of inputs and diminishing returns from 7th to 10th combination of inputs.
Note. Remember, law of increasing returns is also called law of diminishing costs and the law of diminishing returns is labelled as law of increasing costs.
Three tendencies of Returns to Scale. When all the inputs are increased in the same proportion, the following three types of situations in output are observed.
(i) Increasing Returns to Scale (IRS). It occurs when output (TPP) increases by a greater proportion (say, by 120%) than the proportion of increase (say, by 100%) in all the inputs. For detail, see part (b) of this question.
(ii) Constant Returns to Scale (CRS). It happens when output (TPP) increases by the same proportion (say, by 100%) as that of increase (say, by 100%) in inputs. For detail, see part (d).
(iii) Diminishing Returns to Scale (DRS). It occurs when output (TPP) increases by a lesser proportion (say, by 80%) than the proportion of increase (say, by 100%) in inputs. For detail, see part (c).
(Mind : The above cited three tendencies are not three different laws of return to scale but three aspects of one and the same law.)
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