Question

Show, with suitable illustration, the difference between increasing returns to a variable factor and increasing returns to scale.

Answer 1

Increasing Returns to a Variable Factor (Short Run):

It refers to a situation in the short run where one input is variable (like labour) and others are fixed (like capital). As more units of the variable factor are added to the fixed factors, output increases at an increasing rate.

Example (Assume capital is fixed):

Units of Labour	Total Product (TP)
1	10
2	25
3	45

Here, each additional labour adds more output than the previous one (MP increases), showing increasing returns to a variable factor.

Increasing Returns to Scale (Long Run):

It refers to a situation in the long run, where all inputs are increased in the same proportion, and output increases by a more than proportionate rate.

Example:

Inputs (Capital + Labour)	Output
1 + 1	100
2 + 2	250

Here, inputs are doubled, but output increases more than double. This is increasing returns to scale.