Laws are a part of life and majorly they bring discipline! But when it comes to studying them, it almost feels like a googly (cricket vibes!). When I first read about ‘Law of returns’ in my Economics class at school, I loved it! Partially, it was because it involved a lot of numbers and calculations which were really amazing to solve. But just like any other Economics theory, this one had a fantastic real life application. One part especially found its place in literally every business book and day to day life activities too, the law of diminishing returns! Have you heard about it? If yes, you would be amazed to know how much it affects your daily life. If you haven’t heard about it before, be prepared to enjoy a full fledged unraveling of a unique practical application of Economics!
What is the Law of Diminishing Returns?
Before we go any further, the big question is what is this interesting theory all about? Keeping it super simple as always, the law of returns applies to the output you receive with respect to the input you put. If you keep adding quantities of just one input while all other inputs remain constant, then gradually the marginal output i.e. the benefit you receive would keep on decreasing. It is also called the law of diminishing marginal productivity.
Confused? An example here is just what we need! Though agriculture and farming are generally the most common examples cited, interesting examples always become worth remembering. So here’s one for you. Imagine, you joined a gym! Aim? Shedding 10 kilos asap. You start your workout regime all religiously putting in more and more effort everyday but gradually you notice that in the first few weeks you got great results like say you lost 3 kgs in two weeks and then in the next few weeks, the results were not the same. Probably for shedding next 3 kilos, you might require four weeks. This is the law of diminishing returns! Even with more effort, you got a diminishing return! Sigh! No wonder weight loss is always a problem!
Fun fact: Is the Law of Diminishing Returns actually a Law? Yes and No! It’s called a law but it’s more of an observation and not a scientific law. You can call it an Economic theory.
Law of Diminishing Returns in Everyday Life?
Oh yes, you read it right! Every single day you come across this law of diminishing returns, it’s just that you didn’t recognise it yet! One example you already read above, the workout one! But there are tons of them! Some applications of this economics theory would leave you wondering.
1. More Money = Increased Standard of Living? Rethink Again
Now you can argue that more wealth and money would obviously lead to good, better and the best standard of living. But the diminishing returns state otherwise. Initially more wealth means one can afford a better standard of living. Gradually each additional unit of money improves your standard of living but not in the same proportion as earlier. Being wealthy is great, but the value of money reduces beyond a point as it does not improve the standard of living like you expect.
2. Work Life Balance
Biggest debate nowadays gets justified by this law of diminishing returns. Imagine you are fully rested, refreshed and start with your office work at 9 AM. After every hour you get more into the groove and your productivity increases but beyond a point say after 5 PM, your productivity starts declining. Why, because you mind is tired and needs a break. Each additional hour would only give less and less work output. Shows how much sense it makes to get some work life balance to ensure you stay most productive and make the best use of your time.
Another point is you may enjoy working a lot and enjoy accompanying perks but gradually it can impact your quality of life as well.
3. Studying has Boundaries Too
The student in you would be left astonished. Remember you might have heard one of your friends complaining they study for 10-12 hours a day still they get average marks. Now, you know why! Beyond an optimal point, each additional hour only reduces how much the brain can take the information and the retention power gets reduced too.
4. Eating More?
Ice cream marathon! How many chocolate ice cream cones can you eat in one go? 5, 7…15? But am sure you won’t enjoy them beyond the first 2-3 cones, rest all you will consume but not enjoy. Why? Because the utility (or satisfaction) you gain from consuming an ice cream keeps diminishing. This applies to all your eating habits!
5. Success = Work Smarter Not Only Harder
Teachers, parents and everyone keeps telling us to work harder! While that is true, it’s equally important to ensure your efforts get the best results. If you make smart decisions, you always get the best results. Like you are washing your car, after a point it won’t get any more cleaner, you should know where to stop! Same goes for your other day to day decisions like cooking, deciding what to wear each morning and more.
Many more examples of real life applications are there! Like the fitness example shared above, day to day farming activities and more. Can you think of an unusual example?
Do Diminishing Returns Apply to Business?
All examples I ever read in Economics books were all about productivity, output and all things business terms! When you keep increasing one input while keeping other inputs constant, the benefit (marginal output) would gradually decrease. And business is all about getting the highest possible outputs with limited resources. Here’s where this applies in business:
1. Production, the Lifeline of Business
Without producing goods or services, no business can function. But as we all know resources like factory setup, machinery and even money are limited. Gradually when a business keeps increasing a few factors like more workers or maybe more raw materials, the productivity beyond a point decreases.
2. Workforce Gets Affected Too
Adding more and more employees does not mean that the business will grow by leaps and bounds. If you are running a business or doing research on becoming an entrepreneur, you will totally agree on this. Initially adding workforce gets great results as efficiency and work output increases but after a point not only the efficiency decreases but the marginal output too gets a dip.
3. Marketing Efforts are Under a Threat
In today’s digital world, entrepreneurs and even big business giants are spending a huge share of their budget on marketing. Google ads, Meta ads, campaigns… and what not. Literally the investment on marketing is skyrocketing. But this law gives a reality check! As just spending money like water on marketing is not the best solution. Keep a track of data, because after a point the results you get from each additional investment on marketing would start reducing. Why this happens is super interesting and yet another blog totally on this is in works!
Interesting Example: Buffets at Restaurant
Have you been to a buffet lunch or enjoyed a breakfast buffet at any hotel or restaurant? The business magnate in you would be left wondering how the restaurants are not going bankrupt with people literally eating without any limit! Why food buffets don’t lead to a loss for hotels/ restaurants? How do they justify the buffet setting economically?
It is because they work on this principle. Gradually customers reach a point where the pleasure (utility) gained from each additional plate of food or dish, isn’t worth the cost of consuming that additional plate. Someone can eat 2, 3 or maybe 4 servings of delicious Paneer Butter Masala (yum!) but beyond that they will prefer to eat something else or they might just feel too full to consume anything more. Cost remains constant, while consumption of plates and dishes keeps increasing till a limit. As A result, slowly utility starts decreasing and consumption decreases too!
But Why Diminishing Returns Happen?
You added an input still you didn’t get the best benefit, sounds so unfair, right? But that’s the reality of life and this is exactly how the law of diminishing marginal productivity operates. Mainly the diminishing returns happen because some factors always remain constant and that’s why when you keep increasing only certain inputs, gradually the efficiency reduces. Here are all the reasons behind why you get diminishing returns:
1. Efficiency Woes
Even if one input is constant, gradually each additional input would reduce the efficiency! Imagine you have one acre of farming land for growing sugarcane, you keep adding more labour, after a point say after 10 labour units, each additional one would only lead to a lower productivity.
2. Optimal is the Best
Heard about the term ‘optimal level’. It’s the sweetest spot when it comes to ‘returns’. The space just before diminishing returns sets in, is the optimal level. It basically means that the place where you are getting the best results or output with all your inputs and beyond which each additional input gives a diminishing value.
3. Timelines Matter
Law of diminishing returns actually is dependent on the timeline too. In the short run i.e. in a shorter duration of time you will notice it’s more applicable but as soon as you increase the timeline, the possibility of all factors being adjusted increases. That means, no factor remains fixed. In the long term one can overcome the ‘constant’ or ‘fixed’ factor barrier. Like if you had to complete one project and if you had ample of time in hand, you could space it out to get best productivity but if you had to complete it within a few hours, gradually your productivity reduces.
4. Resources are Limited
Simplest of things like time, land, money or even the efforts you put in getting things done can be dedicated within a limit! This paves way for the law of diminishing returns as one or more factors remains fixed or constant.
One lesson this whole research on diminishing returns taught me? Work smarter, not only harder. Understanding how we can ensure our daily life decisions or business decisions operate at an optimal level is the key. No wonder, when we look at the business case studies they talk about keeping a big check on data and analytics as this helps the most in ensuring you only maximise the returns of your efforts!
Did you like reading about my observation and version of the law of diminishing returns? Do tell me your views in the comments section below.