Video Transcript: Lesson 11

Hey, welcome back. Unit four, lesson two. We're going to discuss the  diminishing marginal product. Again, the definition: diminishing marginal product. The more physical capital we have, the less additional output we obtain from  additional physical capital. So, as we have more and more capital, other things  being equal, that means everything else being fixed. Like, let's say our electricity bill is the same. Let's say our labor, our labor is still the same. Let's say our  overhead, maybe for materials, is the same. Okay, but other things being equal,  additions to our capital stock contribute less and less to output. Economists call  this idea diminishing marginal product of capital. The more labor we have, the  less additional output we obtain from additional labor. So, if you look at it, if we  have more of the physical capital to build our products, but we only have so  much labor, all of this other physical capital that we have that we can input into  building more products can't be used as quickly because we have the same  labor supply. So if we have all of this excess physical capital, such as materials,  we won't be able to input those into the process as quickly. So then, those are  just sitting there, not being used. So it's diminishing marginal product, right? So  if we have all of this, you know, pent up inventory of physical capital, we won't  be able to use it all as quickly. And we've made this large investment into this  excess capital, a physical capital, and that we could have used in other places,  you know, to reinvest. So, so the marginal production is is what it is marginal. So the more labor we have, the less additional output we obtain from additional  labor. Right. Analogously, this is called diminishing marginal product of labor.  Same kind of concept. If we have too many employees, but we only have this  much demand for our product, we have all of this excess labor that is actually  being underutilized. So we may not be able to, you know, get as much  production out of them, and we're just kind of paying them wastefully. When we  could probably have more people or have less people do the same amount of  work and just distribute that work out more evenly, and then you'll have more  productivity per labor unit. So as you have more labor, but demand stays the  same, you know that is a diminishing, You know, is diminishing marginal product for labor too, right? So, as we have more and more labor, we find that additions  to our workforce contribute less and less to the output. So, diminishing marginal  products are a plausible feature for our production function. Okay, they are the  easiest to understand at the level of an individual firm. Now, let's suppose we  are gradually introducing new state-of-the-art computers into our business. In  the beginning, we would want to give these new machines to people who could  get the most benefit from them, perhaps people, perhaps scientists and  engineers who are working on research and development. Then you might want  to give computers to those working on the production and logistics. These  people would see a smaller increase in their productivity because the computers would make their job more efficient and effective. After that, you might want to  give them, you know, those working in the accounting department. You may 

want to also provide them computers and help them increase their productivity.  Only after those people have been equipped with new computers, would you  want to start supplying secretarial and administrative staff with computers?  Right. You want to make sure that you're making the investment into the right  sections or the right components of your business to make sure that we're not  wasting money. You know, we don't want to overspend on products because you know margins are tight, and we want to ensure that you know we can reinvest  that capital somewhere else that can serve us better and make our productivity  more efficient too. So, moving on. The best order in which to supply people with  new technology depends on the business, obviously. The important point is that  you should, at all times, give computers to those who would benefit the most  and would increase their productivity as technology penetrates the market, there is less and less additional gain from each new computer. Why is that? Because  more people in the market, your competitors X, Y, and Z, they also have  computers as well. So we're competing against the same people with the same  technology. More computers that we add isn't going to make our company better or more productive. You know, it's probably going to be a waste of money. So we need to make sure that we are spending that capital correctly. So diminishing  marginal product of labor is also plausible here with diminishing marginal  product as firms hire more and more labor, holding fixed the amount of capital  and other inputs, so they hire more labor. But the amount of capital, the amount  of resources, the amount of materials that we have, and other inputs such as  electricity, etc. they remain the same. But we're adding more labor. I just kind of  want to break down that example for you: We expect that each hour of work will  yield less in terms of output. So think of a production process. Let's say we're  making pizzas, right? Imagine that we have a fixed capital stock, which is a  restaurant with workers, and they get a lot of extra pizza from a little bit of extra  work as we increase the number of workers. However, we start to find that the  beginning they begin to get in each other's way because there's too many  workers, right? So they're just back to back fumbling around trying to make  these pizzas. So the productivity of each labor unit or the productivity of each  employee has gone down because we've added too much labor. But at the at  the beginning, we had labor amount that was over you know overwhelmed by  the amount of pizzas that were being brought in or being ordered. So then we  increase our labor, but then we stacked it too much. We had too much labor, so  then each person was not being as productive as possible because there was  too many people and not enough resources. So both of these mean that as we  increase the hours worked, we should expect expect to see each additional hour contributing less and less in terms of additional output. So, adding more labor is  not always the answer. Okay, we have to find the right fit, the correct amount to  make sure that we are maximizing our productivity per labor unit, and then we  will be able to maximize our output. Period. So make sure those things are in 

balance. You know the right amount of material, the right amount of labor. If not,  we'll see the value of those items diminished. So in contrast to capital and labor,  we do not necessarily assume that there are diminishing returns to human  capital, knowledge, natural resources, or social infrastructure. One reason is  that we do not have a natural or obvious measure for human capital or  technology, whereas we do for labor and capital, hours of work, and then capital  usage: how we spend our money, how do we burn our resources, what do we do for the operation.