Returns to scale:a review Initially Y=F(K,L) Scale all inputs by the same factor z: K2=zK and L2=L (If 1.25,then all inputs are increased by 25%) What happens to output,Y2=F(K2,L2)? If constant returns to scale,Y2=Y If increasing returns to scale,Y2>Y If decreasing returns to scale,Y2<Y CHAPTER 3 National Income slide 4CHAPTER 3 National Income slide 4 Returns to scale: a review Initially Y1 = F (K1 ,L1 ) Scale all inputs by the same factor z: K2 = zK1 and L2 = zL1 (If z = 1.25, then all inputs are increased by 25%) What happens to output, Y2 = F (K2 ,L2 ) ? ▪ If constant returns to scale, Y2 = zY1 ▪ If increasing returns to scale, Y2 > zY1 ▪ If decreasing returns to scale, Y2 < zY1 1