Talk:Microeconomics/Perfect Competition

The section on "diminishing returns" in fact discusses the calculation of marginal cost. Diminishing returns is best understood by examining "marginal product" associating the unit of input (capital or labor) with a particular amount of output. The best explanation starts with a fixed amount of money to invest. The money is split between capital and labor. For example, the more capital that is purchased, the less labor that can be hired. Each combination of capital and labor produces a particular level of output. The optimum combination occurs where marginal product of labor is the same as marginal product of capital. Moving away from that intersection decreases the marginal product of one of the two inputs. For example, adding more labor causes less spending on capital equipment. Not only that, the increment of labor added is less efficient than the previous amount of labor. Thus, the solution to the problem of how much to produce (for a given amount of money to invest) occurs where the marginal product of labor is the same as the marginal product of capital. All other solutions are non-optimal. This information can then be translated into cost and output. That function can be differentiated by the labor and capital variables to determine "marginal cost of labor" and "marginal cost of capital" discussed elsewhere.