Why do diminishing returns occur?

Question

Why do diminishing returns occur?

Answer 1

If something is innovative/brand-new and is obviously making a profit, then everyone else will want to "get in on the game."  With increasing competition comes an increasing cost of doing business/keeping business/maintaining market share, etc.--hence "diminishing returns" on ones investments, assets, etc.

(That's why, when you have the proverbial "cash cow," you milk that cow for all it's worth!)

Answer 2

Diminishing return can occur in two ways:

1. As you increase the quantity of input A while keeping the quantities of other inputs constant, after a point the additional quantities will not be efficiently used in the absence of adeqate complement from other inputs. As a result, the incremental production will fall as every additional unit of input A is used for production while other inputs remain constant. For example, on a given piece of land, as you put in more and more labor to do the cultivation, the labors will occupy more space than the crops - too many laborers will find it difficult to plough the land or gather the harvest efficiently. Their average productivity will fall. This is called the law of variable proportions.

2. As you increase the size of a plant, even if you increase the labour input proportinately, additional labour and capital equipment after a point of time may result in lower and lower incremental output. Here although the inputs are combined in optimal proprtions for best productivity, the supervision of labor may suffer as you cannot increase the number of chief manmager for the plant. A small pklant will have one manager in chief, so does a bigger plant. But for a very large plant the chief manager will become a constraint. Yes he may have two three deputies to assist him, but that will raise the problem of coordination among the deputies. A single person has a limitation of dealing with deputies efficiently. Too many deputies may lead to bureacratic chaos and ineffective supervision and loss of focus. So after a point as the scale of operation of a firm increases, the output fails to increase in the same proprtion as the increase in both capital and labor.