{"id":493,"date":"2019-10-10T13:27:00","date_gmt":"2019-10-10T13:27:00","guid":{"rendered":"https:\/\/analystprep.com\/cfa-level-1-exam\/?p=493"},"modified":"2026-02-27T19:14:39","modified_gmt":"2026-02-27T19:14:39","slug":"the-phenomenon-of-diminishing-marginal-returns","status":"publish","type":"post","link":"https:\/\/analystprep.com\/cfa-level-1-exam\/economics\/the-phenomenon-of-diminishing-marginal-returns\/","title":{"rendered":"The Law of Diminishing Marginal Returns"},"content":{"rendered":"\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"QAPage\",\n  \"mainEntity\": {\n    \"@type\": \"Question\",\n    \"name\": \"Why do diminishing returns occur when labor input continuously increases?\",\n    \"text\": \"When there is a continuous increase in labor input, diminishing returns start to set in because:\\n\\nA. Marginal product (MP) declines.\\n\\nB. Output decreases.\\n\\nC. The cost of an extra worker is higher than the revenue it generates.\",\n    \"answerCount\": 1,\n    \"acceptedAnswer\": {\n      \"@type\": \"Answer\",\n      \"text\": \"The correct answer is A. Diminishing returns occur when additional units of labor result in progressively smaller increases in output, meaning marginal product declines. Output may still increase, but at a decreasing rate. It does not necessarily imply losses or that output falls.\"\n    }\n  }\n}\n<\/script>\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"VideoObject\",\n  \"name\": \"Topics in Demand and Supply Analysis (2022 Level I CFA\u00ae Exam \u2013 Reading 8)\",\n  \"description\": \"This video covers demand and supply analysis, including key concepts like price, income, and cross-price elasticity, substitution and income effects, diminishing marginal returns, breakeven and shutdown points, economies of scale, and diseconomies of scale. Practical examples and explanations provide a comprehensive understanding of microeconomic principles.\",\n  \"uploadDate\": \"2018-11-04T00:00:00+00:00\",\n  \"thumbnailUrl\": \"https:\/\/img.youtube.com\/vi\/peZTnpzYHPg\/maxresdefault.jpg\",\n  \"contentUrl\": \"https:\/\/youtu.be\/peZTnpzYHPg\",\n  \"embedUrl\": \"https:\/\/www.youtube.com\/embed\/peZTnpzYHPg\",\n  \"duration\": \"PT22M55S\"\n}\n<\/script>\n\n\n<h2><iframe loading=\"lazy\" width=\"611\" height=\"344\" src=\"\/\/www.youtube.com\/embed\/peZTnpzYHPg?autoplay=0&amp;loop=0&amp;rel=0\" frameborder=\"0\" allowfullscreen=\"\"><\/iframe><\/h2>\n<p>The law of diminishing marginal returns states that the marginal return from an increased input, say labor, will decrease when this input is added continually to a fixed capital base.<\/p>\n<h2><strong>Example<\/strong><\/h2>\n<p>A good example is that of a factory that employs many workers and produces at full capacity. With all factors of production held constant, at one point, each supplementary worker will be able to generate less output compared to the worker before them. Consequently, each worker that comes next will provide lower and lower returns. As a result, the factory\u2019s production declines.<\/p>\n<p>With one factor of production fixed, diminishing returns will occur in the short-run. When a certain variable factor of production increases, it will become less productive and eventually become a decreasing marginal. Later, it would transform into an average product when it reaches some point. When capital is fixed to increase production, and extra workers are hired, production will be increased, but it will be slow. The law of diminishing returns applies in the short-run because, in the long-run, no factor is constant.<\/p>\n<h2><strong>Illustration<\/strong><\/h2>\n<p>Assuming the wage rate in a small fast-food restaurant is fixed. The following table shows the marginal product of labor for the fast-food restaurant, where MP (marginal product of labor) is the number of hamburgers produced per hour.<\/p>\n<p>$$<br \/>\n\\begin{array}{l|c|c}<br \/>\n\\textbf{Labor} &amp; \\textbf{Output} &amp; \\textbf{MP} \\\\<br \/>\n\\hline<br \/>\n1 &amp; 10 &amp; 10 \\\\<br \/>\n2 &amp; 25 &amp; 15 \\\\<br \/>\n3 &amp; 45 &amp; 20 \\\\<br \/>\n4 &amp; 55 &amp; 10 \\\\<br \/>\n5 &amp; 62 &amp; 7 \\\\<br \/>\n6 &amp; 69 &amp; 4 \\\\<br \/>\n\\end{array}<br \/>\n$$<\/p>\n<p>Here, the input increases with every worker. However, the Marginal Product of Labor (MP) denotes the additional units produced by each worker. The first worker can produce 10 hamburgers per hour. The second worker will add 15 hamburgers because both workers will specialize in one task in particular. The third worker will add an extra 20 hamburgers.<\/p>\n<p>However, the fourth worker will only add 10 more hamburgers. The 5th will add merely 7 units of output per hour. Why so?<\/p>\n<p>It is because the workspace is limited (numbers of ovens, etc.), adding the fourth worker will increase output but will decrease the MP. Candidates might want to visualize this concept by seeing workers \u201cbumping\u201d into each other while undertaking their tasks.<\/p>\n<p>Other examples of diminishing returns can be the use of fertilizers (chemical). A small amount of fertilizer leads to a large increase in output. However, increased use of these fertilizers causes a declining marginal product.<\/p>\n<blockquote>\n<h2><strong>Question<\/strong><\/h2>\n<p>When there occurs a continuous increase in labor input, diminishing returns start to set in because:<\/p>\n<p>A. marginal Product (MP) declines;<\/p>\n<p>B. the output decreases; or<\/p>\n<p>C. the cost of an extra worker is higher than the revenue it generates.<\/p>\n<p><strong>Solution<\/strong><\/p>\n<p>The correct answer is A.<\/p>\n<p>Diminishing returns represent a point at which additions of the input yield progressively smaller increments in output.<\/p>\n<p>Option B is incorrect because the output does not decrease. <a href=\"https:\/\/aspireregenerativehealth.com\/buy-diazepam\/\">https:\/\/aspireregenerativehealth.com\/<\/a>  It simply increases at a lower rate.<\/p>\n<p>Option C is also incorrect because there is diminishing marginal productivity, but the business does not run at a loss when it hires additional workers. Each new worker is just less productive.<\/p>\n<\/blockquote>\n<div class=\"notes_inv\">\n<hr>\n<p><a href=\"https:\/\/analystprep.com\/cfa-level-1-exam\/economics\/learning-sessions-curriculum-economics\/\"><em>Economics \u2013 Learning Sessions<\/em><\/a><\/p>\n<\/div>\n\n","protected":false},"excerpt":{"rendered":"<p>The law of diminishing marginal returns states that the marginal return from an increased input, say labor, will decrease when this input is added continually to a fixed capital base. Example A good example is that of a factory that&#8230;<\/p>\n","protected":false},"author":3,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[4],"tags":[],"class_list":["post-493","post","type-post","status-publish","format-standard","hentry","category-economics","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v26.9 - https:\/\/yoast.com\/product\/yoast-seo-wordpress\/ -->\n<title>The Law of Diminishing Marginal Returns | CFA Level 1<\/title>\n<meta name=\"description\" content=\"The law of diminishing marginal returns states that increasing labor towards production will eventually result in a decreased output. 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