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Economic Measures of Capacity Utilization: A Nonparametric Cost Function Analysis

Author

Listed:
  • Subhash C. Ray

    (University of Connecticut)

  • John Walden

    (National Marine Fisheries Service)

  • Lei Chen

    (Jianghan University)

Abstract

Cost based measures of capacity utilization and capacity output are important metrics for evaluating firm performance. Understanding where firms are producing on their average cost curve provides information about whether capacity utilization is greater then, less than or equal to one. Most firms are multi-output, multi-input in nature which makes estimation of capacity utilization and capacity output challenging if a cost based measure is desired. For a multi-output firm, the relevant concept is ray average cost (RAC) which can be estimated through non-linear DEA models. This paper offers a simple transformation that linearizes the non-linear DEA program to estimate average, or ray average cost, and to determine capacity utilization and optimal output. The methods are empirically tested on data from a number of U.S. electricity producers for the single output case, and a sample of dental practices for the multi-output case. Results show that for both industries, most firms were operating at less than full capacity, and needed to expand output to minimize their costs. For the dental practices, examination of results from six randomly chosen firms showed the importance of operatories in determining optimal levels of output.

Suggested Citation

  • Subhash C. Ray & John Walden & Lei Chen, 2018. "Economic Measures of Capacity Utilization: A Nonparametric Cost Function Analysis," Working papers 2018-02, University of Connecticut, Department of Economics.
  • Handle: RePEc:uct:uconnp:2018-02
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    References listed on IDEAS

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    1. Coelli, Tim & Grifell-Tatje, Emili & Perelman, Sergio, 2002. "Capacity utilisation and profitability: A decomposition of short-run profit efficiency," International Journal of Production Economics, Elsevier, vol. 79(3), pages 261-278, October.
    2. Cesaroni, Giovanni & Giovannola, Daniele, 2015. "Average-cost efficiency and optimal scale sizes in non-parametric analysis," European Journal of Operational Research, Elsevier, vol. 242(1), pages 121-133.
    3. Giovanni Cesaroni & Kristiaan Kerstens & Ignace Van de Woestyne, 2017. "A New Input-Oriented Plant Capacity Notion: Definition and Empirical Comparison," Pacific Economic Review, Wiley Blackwell, vol. 22(4), pages 720-739, October.
    4. Ray, Subhash C., 2015. "Nonparametric measures of scale economies and capacity utilization: An application to U.S. manufacturing," European Journal of Operational Research, Elsevier, vol. 245(2), pages 602-611.
    5. L Chen & S C Ray, 2013. "Cost efficiency and scale economies in general dental practices in the US: a non-parametric and parametric analysis of Colorado data," Journal of the Operational Research Society, Palgrave Macmillan;The OR Society, vol. 64(5), pages 762-774, May.
    6. J. M. Cassels, 1937. "Excess Capacity and Monopolistic Competition," The Quarterly Journal of Economics, Oxford University Press, vol. 51(3), pages 426-443.
    7. Lei Chen & Subhash C. Ray, 2010. "Cost Efficiency and Scale Economies in General Dental Practices in the U.S.: A Non-parametric and Parametric Analysis," Working papers 2010-11, University of Connecticut, Department of Economics.
    8. Christensen, Laurits R & Greene, William H, 1976. "Economies of Scale in U.S. Electric Power Generation," Journal of Political Economy, University of Chicago Press, vol. 84(4), pages 655-676, August.
    9. Fare, Rolf & Grosskopf, Shawna & Kokkelenberg, Edward C, 1989. "Measuring Plant Capacity, Utilization and Technical Change: A Nonparametric Approach," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 30(3), pages 655-666, August.
    10. Berndt, Ernst R. & Fuss, Melvyn A., 1986. "Productivity measurement with adjustments for variations in capacity utilization and other forms of temporary equilibrium," Journal of Econometrics, Elsevier, vol. 33(1-2), pages 7-29.
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    More about this item

    JEL classification:

    • D24 - Microeconomics - - Production and Organizations - - - Production; Cost; Capital; Capital, Total Factor, and Multifactor Productivity; Capacity
    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis

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