“Returns to scale” is a term that companies worldwide use for their production functions. The levels of change in output with respect to changes in input levels are measured by this concept. The scale returns can be variable, either increasing or decreasing, or they can be constant.
As the size of the business grows, the levels of resources employed increase. The resources that firms use for their production functions are labor, capital and raw materials. When by increasing the levels of inputs, the company experiences more than the proportional results, the company is said to be enjoying “increasing returns to scale.” In case the output changes by less than the input employed, the company is said to be experiencing “decreasing returns to scale.”
The multiplier for firms having variable returns to scale is never 1. It is possible to have the multiplier as 1 only if the firm is enjoying constant returns to scale. In a competitive business environment, firms either have increasing or decreasing returns to scale. The multiplier for increasing returns is greater than 1 and for decreasing returns is less than 1.
Returns are variable as the long run average costs are variable. The costs of inputs vary and hence the production costs also vary.