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CMA Foundation · Fundamentals of Business Economics and Management · Theory of Production

A Ludhiana hosiery unit raises all inputs by 20% and its output rises by 12%. Which statement is correct?

The unit faces decreasing returns to scale. When all inputs rise by 20% and output rises by only 12%, the proportionate increase in output is smaller than that in inputs. It is not negative returns, because output still increases in absolute terms.

  1. AIncreasing returns to scale, because output has increased
  2. BConstant returns to scale, because both inputs and output have increased
  3. CDecreasing returns to scale, because output rose by a smaller percentage than inputsCorrect
  4. DNegative returns to scale, because output rose by less than 20%

Explanation

Inputs rose 20% but output rose only 12%, which is a smaller proportion, so returns to scale are decreasing. Option D is wrong because negative returns would mean total output actually falls, whereas here output still rises. Option A ignores the proportion.

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