Question

Problem #5: Cross-price elasticity Consider teenage labor and adult labor as separate inputs in production for fast-food restau- rants. Suppose the wage of teenage workers increases (but the adult wage remains the same). Analyze the effect of the teenage wage increase on fast-food restaurants' employment of adult labor, given that: 1. Teenage labor costs are a large share of total costs at fast-food restaurants. 2.Adults dislike the tasks teenagers do at fast-food restaurants (i.e. cleaning bathrooms), so it takes big increases in their wages to get them to do this kind of work. Given these 2 facts, are teenage workers and adult workers more likely to be gross substitutes or gross complements in fast-food production, holding all other factors constant? Explain your answer

Answer 1

Teenage workers are paid wages that are a large share of total cost of restaurants so that the demand for teenage workers is highly elastic. Wages of teenage workers has increased so it is thus more likely that they will face severe unemployment since their demand is elastic. In addition adult workers are required a large increase in the wage rate for the tasks teenage workers can do at a smaller wage rate. Hence their demand is inelastic relatively.

This implies that when wage rate of teenage workers is increased, they are not readily replaced by adult workers because adult workers will do the work done by teenage workers at a higher wage rate. Hence a rise in wage rate of teenage workers decreases the employment of adult workers as well so that the cross price elasticity is negative and the two labor types are gross complements.