Farm Management Notes

Farm Management: Economic Principles of Production Levels

Key Decisions in Farm Management

  • As a farm or ranch manager, critical decisions include:
  • How much of the product to produce?
  • What resources to use in the production of the product?

Chapter Outline

  • The Production Function: Understanding the relationship between inputs/resources and outputs/products.
  • Marginal Analysis: Analyzing incremental changes to maximize profit.

Chapter Objectives

  • Explain marginal analysis and its importance in decision-making.
  • Illustrate the relationship between variable inputs and outputs using a production function.
  • Identify the profit-maximizing point using marginal concepts.

Application of Economic Principles

  • Economic principles consist of rules for making decisions that maximize profit, following three steps:
  1. Acquire physical and biological data on resources and resulting marketable products.
  2. Collect price data for both inputs and outputs.
  3. Apply economic decision-making rules to maximize profit.

The Production Function

  • Represents the relationship between different input amounts and the resulting output.
  • Can be displayed as:
  • A table,
  • A graph,
  • A mathematical function.
  • Sometimes referred to as a response curve or yield curve.

Total Cost and Total Revenue

  • Total Cost (TC):
  • Calculate variable cost by multiplying the quantity of a variable input by its price.
  • Add fixed costs to variable costs for TC.
  • Total Revenue (TR):
  • Derived by multiplying the level of output by the price per unit.
  • Accounting Profit:
  • The difference between TR and TC.

Marginal Analysis

  • The term "marginal" refers to changes at the edge or “margin.” It denotes incremental variations in production and costs.
  • Marginal Concepts:
  • Profit-maximizing input levels found by examining marginal changes in costs and revenues:
    • Marginal Revenue (MR): Change in total revenue from selling one additional unit (MR = ΔTR/Δoutput).
    • If price is constant, MR equals the output price.
    • Marginal Cost (MC): Change in total cost associated with producing one more unit (MC = ΔCost/Δoutput).

The Decision Rule

  • The profit-maximizing condition is met at MR = MC.
  • If exact values are not available, utilize the closest approximation but ensure MR does not fall below MC.

Varying Prices and Marginal Concepts

  • Output and input prices may vary as production levels change.
  • Example: Livestock might command lower prices per pound as they become heavier, affecting marginal revenue.

Summary of Economic Principles

  • Economic principles leveraging marginal analysis provide essential guidelines for effective decision-making in farm management.
  • Equating MR and MC facilitates the identification of the optimal output level for profit maximization.