Home > Factor Markets, Micro concepts > Firms and factors of production

Firms and factors of production

January 16, 2012

Firms will use various inputs to make their products, but most commonly we look at two factors of production – capital (including the buildings, machinery) and labour (workers) that combine to turn the raw inputs of production into productive output.

The firms will generally look to use these factors in a combination that maximises their profits, given that there will likely be a cost for both capital and labour. In reality there will be lots of different types of capital and different workers on different pay grades, so these costs will vary, but for the purpose of a simple model we can just take capital and labour as being uniform factors that have a single price.

In the short run, a firm’s capital is fixed, so if it wants to increase output it must increase the amount of labour it hires. So in the short run the production function is purely a function of labour. In the long run however a firm can vary both capital and labour and so its production function will be a function of labour and capital.

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