Input Combination

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Farm Management

Chapter 8

Economic Principles

Choosing Input and Output Combinations


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farm managementchapter 8

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Chapter Outline

Input Combinations

Enterprise Combinations


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Input Combinations

Most products require two or more

inputs, and the manager may choose

the input combination or ratio to use.

The economic question is whether

one input can be substituted for

another to reduce the cost.


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Types of Input Substitution

Constant rate (perfect substitution)

Decreasing rate

No substitution


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Figure 8-1Three possible types of substitution


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Input Substitution Ratio

Input substitution ratio =

amount of input replacedamount of input added


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Input Price Ratio

Input price ratio =

price of input being addedprice of input being replaced


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Decision Rule

input substitution ratio = input price ratio

If they cannot be exactly equal becauseof the choices available in the table, get

as close as possible without letting

the price ratio exceed the substitutionratio.


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Table 8-1Selecting a Least-Cost Feed Ration

Input InputFeed Grain Hay Substitution Price

ration (lbs) (lbs) Ratio Ratio

A 825 1350

B 900 1130 2.93 1.47C 975 935 2.60 1.47

D 1050 770 2.20 1.47

E 1125 625 1.93 1.47

F 1200 525 1.33 1.47G 1275 445 1.07 1.47

grain at 4.4 and hay at 3.0


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With Different Types of Substitution

With a constant rate of substitution, the

least-cost combination will be all of one

input and none of the other (unless the

price ratio is exactly equal to the constantrate of substitution).

With a decreasing rate of substitution, the

least-cost combination will usually includesome of each input.


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Enterprise Combinations

Another decision that must be made

is the combination of enterprises

to produce to maximize profits. If oneor more inputs is limited, there is an

upper limit on how much can be

produced.


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Enterprise Relationships

The first step in determining the

profit-maximizing combination of

enterprises is to determine thephysical relationship among the

enterprises.


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Competitive Enterprises

Competitive enterprises may have

constant substitution or increasing

substitution.


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Figure 8-2Production Possibility Curvesfor Competitive Enterprises


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Figure 8-3Supplementary & complementary

enterprise relationships


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Output Substitution Ratio

Output Substitution Ratio =

quantity of output lostquantity of output gained


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Output Price Ratio

Output Price Ratio =

price of output gainedprice of output lost


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Decision Rule

output substitution ratio = output price ratio

If no available combination makes theseexactly equal, get as close as possible

without letting the price ratio drop below

the substitution ratio.


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Table 8-2Profit-Maximizing Enterprise Combination

Output Output

Combination Corn Wheat substitution price

number (bu) (bu) ratio ratio

1 0 6,000

2 2,000 5,600 0.20 0.703 4,000 5,000 0.30 0.70

4 6,000 4,100 0.45 0.70

5 8,000 3,000 0.55 0.70

6 10,000 1,700 0.65 0.707 12,000 0 0.85 0.70

corn at $2.80/bu, wheat at $4.00/bu


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Summary

This chapter emphasizes the use of

substitution principles to decide how

and what to produce. To decide

how to produce, the manager finds

the least-cost combination of inputs.

To decide what to produce, the manager

finds the profit-maximizing combinationof enterprises.

Input Combination

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