Production (economics) facts for kids

Production is how we make things! It's the process of taking different ingredients, both physical ones like metal, wood, or plastic, and non-physical ones like ideas or knowledge, to create something new. This new thing is usually a good (like a toy or a car) or a service (like a haircut or a concert). The goal is for this new item to be valuable and useful to people.

In economics, the study of how things are made is called production theory. It's closely linked to how people use or "consume" things. The things we make come from using basic ingredients, also called factors of production. These main ingredients are usually land (natural resources), labor (people's work), and capital (tools, machines, buildings). These main ingredients don't change much themselves when we make something. For example, a factory building (capital) isn't used up when it helps make cars. Sometimes, new ideas like entrepreneurship (starting a business) and technology are also seen as important factors in making things.

We often use many different inputs to create a product. A "production function" helps us understand how these inputs relate to the amount of stuff we can make. When we produce things, we create "economic well-being." This means we're doing activities that help satisfy what people want and need. The more needs we satisfy, the better our economic well-being.

There are three main ways things are produced:

• Market production: This is when businesses make things to sell for profit.
• Public production: This is when the government or public services make things, like building roads or providing education.
• Household production: This is when families make things for themselves, like cooking meals or doing chores.

Understanding these three types of production helps us see where economic well-being comes from. All of them create valuable things that help people. When the quality of goods and services gets better, or their price goes down, people get more for their money. This makes them happier and increases their well-being.

Market production is super important because it's the main way money is earned and shared among people. Public and household production often rely on money earned from market production. So, market production plays a double role: it makes goods and services, and it creates income for people.

How Production Economics Works

The main idea behind production is that businesses want to make the most profit possible. Profit is the money left over after you subtract the costs of making something from the money you earn selling it. Many things affect how much profit a business makes, like how efficient it is, new technology, prices, and how much people buy.

Being Efficient

Efficiency is about doing things in the best way possible to get the most out of your resources. It means making sure you're producing as much as you can, not less than you could. For example, if your factory could make 100 toys but only makes 60, your efficiency is 60%. Improving efficiency means you can make more with the same amount of effort or resources. Sometimes, making more of something can make you even more efficient, which is called "economies of scale".

New Technology

New technology is a huge part of making production better. Think about how the Industrial Revolution changed everything with new machines! Technology helps businesses make things faster, cheaper, or better. That's why it's important to keep developing and using new technologies.

Behavior, Buying, and Productivity

How a business acts usually comes down to wanting to make more profit. The amount of stuff we make can go up or down depending on how much people want to buy (their consumption). This is like the idea of supply and demand in economics. If a business makes less than people want to buy, its productivity (how much it makes per worker or machine) goes down. If it makes more than people buy, productivity goes up.

Setting Prices

In a market, the prices for the ingredients you use (inputs) and the products you sell (outputs) are often set by the market itself. This means a single business usually can't control these prices. If the cost of making something is too high, it might not be worth producing it at all. Prices also affect how much people buy, which then affects how much a business produces.

Production and Well-Being

In an economy, there are two main activities: making things (production) and using things (consumption). There are also two main types of people: producers (who make things) and consumers (who use them). People's well-being comes from efficient production and from how producers and consumers interact.

Consumers play two roles: they are customers who buy products, and they are also suppliers who provide things like labor or resources to producers. Customers feel good when they buy useful products, and suppliers feel good when they get paid for their work or resources.

People Involved in Production

The "stakeholders" of a company are all the people, groups, or organizations who have an interest in it. Economic well-being comes from good production and is shared among these stakeholders. We can group them into three main types:

• Customers: These are the people or other businesses who buy the products. Because companies compete, products often get better quality for the same price, or even cheaper. This means customers get more for their money. For families and public services, this means they can satisfy more needs for less cost.
• Suppliers: These are the people or companies who provide the materials, energy, tools, or services that a company needs to produce. Changes in the prices or quality of what suppliers provide affect both the company and the suppliers.
• Producers: This group includes the workers, the community, and the owners of the company. They earn money from making and selling products.

When products get better or cheaper over time, customers benefit. They get more satisfaction for less cost. The producer community (workers, society, and owners) earns income for their part in production. When production grows and becomes more efficient, incomes tend to increase. This means more money for salaries, taxes, and profits.

Main Steps in a Company

A company's work can be broken down into five main steps:

• Real process: This is where the actual product is made from the ingredients.
• Income distribution process: This is where the money earned from production is shared among everyone involved.
• Production process: This is the combination of the real process and the income distribution process.
• Monetary process: This deals with how the business is financed (gets money).
• Market value process: This is about how investors decide what the company is worth.

The "real process" is like the recipe for making something. It shows how different ingredients are put together to create the final product. The value created in this process is then shared between the customer (who gets a good product) and the producer (who makes a profit).

The "income distribution process" is about how prices change for products and ingredients, which then affects how the money is shared. For example, if a company becomes more productive, it might lower prices for customers or pay its staff more.

The "production process" includes both the making of the product and the sharing of the money. A company's success is often measured by its profitability.

How Production Grows and Performs

Economic growth usually means that a country or business is making more products or services. This is often measured by how much the "real output" (the actual value of goods and services produced) increases. When we subtract the "real input" (the value of ingredients used) from the "real output," we get "real income."

The "production function" helps us understand this. It's like a map showing how much output you get from different amounts of inputs. Growth in production can happen in two ways:

• Using more inputs: If you use more workers or machines, you'll likely make more.
• Increasing productivity: This means making more with the same amount of inputs, or even less. It's often due to new ideas or better ways of doing things.

How economic growth happens (Saari 2006,2)

The picture shows how output grows. Line 1 shows growth just from using more ingredients. Line 2 shows growth from being more productive, meaning you get more output for each ingredient used.

The "performance" of production is how well it creates income. This "real income" is generated in the "real process." When real income increases, it means the production is performing better.

For example, in the US since 1947, most economic growth has come from simply using more equipment, buildings, and workers. Only about 20% of the growth came from new inventions or innovations that increased productivity.

When we look at a whole economy, we often talk about "value-added." This is the value of the products minus the cost of the intermediate ingredients used to make them. The most famous measure of value-added is the GDP (Gross Domestic Product), which measures a country's total economic output.

Total and Average Income

We can measure production performance in two ways:

• Average income: This is often called the "productivity ratio" (Real output / Real input). It tells you how much output you get per unit of input.
• Absolute (total) income: This is the "real income" (Real output – Real input). It tells you the total economic value created that can be shared.

Maximizing the total real income is usually the goal for best production performance. Sometimes, you might see "jobless growth". This means the economy is growing because of increased productivity, but it's not creating new jobs. For example, if a company uses robots to do work previously done by people, its productivity might go up, but fewer jobs are created.

The Production Function

The production function shows the link between the ingredients a business uses and the amount of product it makes. In the short term, some ingredients (like a factory building) might be fixed, while others (like the number of workers) can change.

There are three ways to measure production and productivity:

• Total output: This is the total amount of product made. It's easy to measure for things like cars, but harder for services like teaching.
• Average output: This measures how much is made per worker or per machine.
• Marginal product: This is the extra output you get by adding just one more worker or one more machine.

The "law of diminishing marginal returns" says that if you keep adding more of one ingredient (like workers) while other ingredients (like machines) stay the same, the extra output you get from each new worker will eventually start to get smaller.

Production Models

A production model is a way to describe the production process using numbers, based on the prices and amounts of inputs and outputs. These models can be mathematical (often used for big-picture economics) or arithmetical (often used for individual businesses). Arithmetical models are easier to understand and use in practice.

Production Income Model

How profit is measured by surplus value (Saari 2006,3)

One way to measure success in production is by how much "surplus value" is created. Surplus value is the difference between the money earned from selling products and the total costs of making them. If the surplus value is positive, it means the company made more value than it spent, and the owners are happy.

To measure this accurately, each input and output should be counted individually, not grouped together. This helps avoid mistakes in the measurement.

Understanding the Numbers

To understand how profit changes, we look at one factor at a time. First, we see how changes in prices affect profit (the income distribution process). Then, we see how changes in the amount of things made affect profit (the real process).

For example, if a company's real income increased by 58.12 units, it means 41.12 units came from being more productive, and 17.00 units came from making more products. This total increase (58.12) is then shared among the stakeholders: customers, suppliers, and owners.

This shows that how much income is made and how it's shared are always balanced. The income created by production is always distributed to the people involved.

We can also tell if production is getting "increasing returns" or "diminishing returns" based on how productivity and production volume change:

• Increasing returns: Both productivity and production volume go up, or both go down.
• Diminishing returns: Productivity goes down while volume goes up, or productivity goes up while volume goes down.

Goals of Production

To better understand how production performs, we can set different goals based on what different groups want. The most common goal is maximizing profit, which is what the owners want.

Goals of production (Saari 2011,17)

Here are some goals that can be set for production:

• Maximizing real income: Making the most total economic value.
• Maximizing producer income: Making the most income for the workers, society, and owners.
• Maximizing owner income: Making the most profit for the owners.

These goals help us see how income is created and then shared among everyone involved. The total income created and the total income distributed are always equal.

See also

In Spanish: Producción (economía) para niños

Images for kids

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  How different groups contribute to a company (Saari, 2011,4)

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  The main steps in a producing company (Saari 2006,3)