Question

1. Deciding how many workers to hire: Assume that the initial price of shoes in this example is $30 per pair. What is the marginal revenue product for each worker? Fill in the following chart and graph each function.

Number of workers	0	1	2	3	4	5	6	7
Total Output Of shoes	0	8	15	21	26	29	31	30
Marginal Output of shoes
Marginal Revenue Product (a.k.a. value of the marginal product of labor)

1. If it costs the firm $90 per worker per day, how many workers would be hired? Why?
2. If the price of shoes was $20 instead of $30, how many workers would be hired?
3. If labor costs went up to $120/day and the price of shoes was $30 each, how many workers would be hired?

2. (2 points) Explain the labor-leisure tradeoff. Why would the labor supply be backward bending at a very high wage rate?
3. (2 points) If the price of the final product goes up, how does that impact labor demand? Graph the impact of a higher price on a labor market graph where you have wage rate on the vertical axis and quantity of workers on the horizontal axis.

Answer 1

Number of workers	0	1	2	3	4	5	6	7
Output	0	8	15	21	26	29	31	30
Marginal output		8	7	6	5	3	2	-1
Marginal revenue		240	210	180	150	90	60	-30

Marginal output = Current output -Previous output

Marginal revenue = Marginal output * price of output

a)

A firm would hire an additional worker till the cost of hiring an additional worker is equal to or lesser than the MR due to the additional worker. (i.e., the condition is MR greater than or equal to MC).

Here, the cost of an additional worker is 90. MR is equal to 90 at output=29. At this output, the number of workers hired is 5..

Therefore, the firm would hire 5 workers.

b)

If the price is 20, the new table is

Number of workers	0	1	2	3	4	5	6	7
Output	0	8	15	21	26	29	31	30
Marginal output		8	7	6	5	3	2	-1
Marginal revenue		160	140	120	100	60	40	-20

Here, at output 26, the MR is 100 (greater than 90) and at output 29, MR is 60 (lesser than 90).

Therefore, the firm would produce 26. The number of workers hired is 4.

c)

Number of workers	0	1	2	3	4	5	6	7
Output	0	8	15	21	26	29	31	30
Marginal output		8	7	6	5	3	2	-1
Marginal revenue		240	210	180	150	90	60	-30

Again, using the MR greater than equal to MC, the number of workers hired would be 4. Here, the marginal revenue is 150 and output is 26.

The labour-leisure trade-off talks about how workers have to choose between working (or consumption) and their desire for leisure. As there only limited number of hours in the day, as working hours (consumption increases), the time allocated to leisure falls.

As wages increase, the opportunity cost of leisure increases. Opportunity cost of leisure is the wages lost from an additional hour of working. Therefore, as wages increase, consumption increases and labour hours decrease whereas leisure falls. But as wages increase beyond a certain point, such that if leisure is increased (i.e., the working hours are decreased), the total earning and therefore, consumption would still remain very high. Therefore, at very high level of wages, workers would now prefer to increase their leisure. This is done without a drop in consumption.

When the price of the commodity increases, the revenue earned increases and therefore, the demand for labour also increases. i.e., the demand curve shifts to the right.

Leisure Supply wage new wage Demand new Pemand old _Workers hired labour labour new

As we can see from the figure, as demand curve shifts to the right, the wages increase.

Impact on labour: If we are on the upward sloping part of the supply curve, the labour hired would increase. But if we are on the backward bending part, the labour hired would decrease.

Therefore, there is an unambigous increase in wages but the impact on labour hired depends on the part of the supply curve we are on.