Due to the law of diminishing returns, both the marginal product and the marginal revenue product for an input will decline as more of the input is deployed.
To maximize firm’s profit, both price takers and price searchers will follow the rule below:
Increase the input unitl MRP=P, where P - cost of last unit of resource input
As the price of an input goes up, fewer units of that resource will generate the MRP needed to entice the firm to employ that resource. The demand curve for a resource will be downward sloping.
Values for the demand curve will depend upon the price of the good being produced, the productivity of the resource in question, and the amount of other resources used by the firm.
A profit-maximizing firm will continue to employ units of a resource as long as the MRP associated with the unit exceeds the firm's cost. If we assume the units of each resource are perfectly divisible, then the following conditions will apply to a firm with 3 production inputs (A, B, and C).
MRPa=Pa
MRPb =Pb
MRPc= Pc
Where:
Pa - price (or wage rate) of resource A,
Pb - price (or wage rate) of resource B,
Pc - price (or wage rate) of resource C.
Expenses can always be reduced by substituting resources with relatively high marginal product per dollar spent for resources that have a relatively low marginal product per dollar. This substitution will continue to occur if per unit costs are to be minimized unit:
MRPa/Pa = MRPb/Pb = MRPc/Pc
In a competitive environment, firms will continue to identify opportunities that generate more value from a given resource. Drives their prices ever higher.
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