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The Law of Diminishing Returns states that as the amount of an input increases, the marginal (additional) output eventually decreases. In other words, the more of something you have, the less each additional unit will add to your total.
The Law of Diminishing Returns was first coined by the French economist Turgot in the 18th century. However, it was not until the early 19th century that the law was fully developed by the English economists David Ricardo, Thomas Malthus, and Edward West.
The Law of Diminishing Returns can be applied to a wide variety of situations, including:
- Agriculture
As more land is cultivated, the marginal yield of each additional unit of land decreases. This is because the best land is used first, and as more land is used, the quality of the land decreases. - Manufacturing
As more workers are added to a production line, the marginal output of each additional worker decreases. This is because the workers start to get in each other’s way, and as the line becomes more crowded, it becomes more difficult to coordinate the work. - Economic growth
As a country’s economy grows, the marginal rate of return on investment decreases. This is because the best investment opportunities are taken first, and as more investment is made, the opportunities for high returns become scarcer.
The Law of Diminishing Returns is an important concept in economics, and it can be used to explain a wide variety of phenomena. It is also a useful tool for decision-making, as it can help us to allocate resources efficiently.
Example
- You are a business owner who is trying to increase sales. You start by running a small advertising campaign, and you see a small increase in sales. However, when you increase the size of your advertising campaign, you see a smaller increase in sales. This is because the first advertising campaign reached your most likely customers, and as you reach more customers, the likelihood of them being interested in your product decreases.
- If you study for e.g. an hour for a test, you may improve your score by 10%. However, if you study for two hours, you may only improve your score by 5%. This is because the first hour of studying is the most productive, and as you spend more time studying, the marginal benefit of each additional hour decreases.
- As a personal trainer who is trying to help a client lose weight, you start by having the client work out for 60 minutes each day, and the client loses a few kilograms. However, when you increase the amount of time the client works out to 90 minutes each day, the client only loses a few additional kilograms. This is because the first 60 minutes of exercise is the most effective for weight loss, and as the client exercises for longer periods of time, the marginal benefit of each additional minute decreases.
- You are a company that is trying to increase its profits. You start by investing in new equipment, and you see a small increase in profits. However, when you invest in more and more equipment, you see a smaller increase in profits. This is because the first investment in equipment is the most effective for increasing profits, and as the company invests in more equipment, the marginal benefit of each additional investment decreases.
The law can be applied to a wide variety of situations, and it is a fundamental concept in economics and in life. It is important to understand this concept so that we can make informed decisions about how to allocate our resources.
This plays into other laws on productivity and resource allocation such as Pareto’s Law. For instance, it would make sense to first apply Pareto’s Law to a challenge, until you experience diminishing returns. Then apply the second highest priority according to you previous analysis using Pareto’s Law, or change your approach until you reach you experience diminishing returns once again.
As an example you may want to sell product X in the market. You apply Pareto’s Law to the set of possible online marketing approaches to find the one that yields the most sales per cost across a short period of time. You find that Google AdWords is the most effective one, and apply this. After increasing spending to about xyz USD pr. day, you find that you start getting diminishing returns from this approach. You then try the next best approach from your Pareto’s Law analysis until you start experiencing diminishing returns from that approach.