Demand The for Resources
ANSWERS TO END-OF-CHAPTER QUESTIONS
25-1 What is the significance of resource pricing? Explain how the factors determining resource demand differ from those determining product demand. Explain the meaning and significance of the fact that the demand for a resource is a derived demand. Why do resource demand curves slope downward? All resources that enter into production are owned by someone, including the most important resource of all for most people, self-owned labor. The most basic significance of resource pricing is that it largely determines peoples incomes. Resource pricing allocates scarce resources among alternative uses. Firms take account of the prices of resources in deciding how best to attain least-cost production. Finally, resource pricing has a great deal to do with income inequality and the debate as to what government should or should not do to lessen this inequality. It is here that the factors that determine resource demand are most different from those that determine demand for products. Demand for products is a question of income and tastes. But resource demand is more passive in the sense that it is derived from the demand for the products the resource can produce. If a resource cant be used in production of a desired product, there will not be any demand for it. Additionally, resources are often less mobile than products, so their geographic location relative to demand for the output they produce may be an important factor determining demand for resources in particular geographic areas. Resources, factors of production, are not hired or bought because their employer or buyer desires them for themselves. The demand for resources is entirely derived from what the firm believes the resources can produce. If there were no demand for output, there would be no demand for input. The demand for a resource depends, then, on how productive it is in producing output and on the price of the output. The demand for a resource is downward sloping because of the diminishing marginal product of the resource (because of the law of diminishing returns) and, in imperfectly competitive markets, also because the greater the output, the lower its price. (Key Question) Complete the following labor demand table for a firm that is hiring labor competitively and selling its product in a competitive market. Units of labor 0 1 2 3 4 5 6 Marginal revenue product $____ ____ ____ ____ ____ ____
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Total product 0 17 31 43 53 60 65
Marginal product ____ ____ ____ ____ ____ ____ ____
Product price $2 2 2 2 2 2 2
Total revenue $____ ____ ____ ____ ____ ____ ____
a. How many workers will the firm hire if the going wage rate is $27.95? $19.95? Explain why the firm will not hire a larger or smaller number of units of labor at each of these wage rates. b. Show in schedule form and graphically the labor demand curve of this firm.
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The Demand for Resources c. Now again determine the firms demand curve for labor, assuming that it is selling in an imperfectly competitive market and that, although it can sell 17 units at $2.20 per unit, it must lower product price by 5 cents in order to sell the marginal product of each successive labor unit. Compare this demand curve with that derived in question 2b. Which curve is more elastic? Explain. Marginal product data, top to bottom: 17; 14; 12; 10; 7; 5. Total revenue data, top to bottom: $0, $34; $62; $86; $106; $120; $130. Marginal revenue product data, top to bottom: $34; $28; $24; $20; $14; $10. (a) Two workers at $27.95 because the MRP of the first worker is $34 and the MRP of the second worker is $28, both exceeding the $27.95 wage. Four workers at $19.95 because workers 1 through 4 have MRPs exceeding the $19.95 wage. The fifth workers MRP is only $14 so he or she will not be hired. (b) The demand schedule consists of the first and last columns of the table:
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(c) Reconstruct the table. New product price data, top to bottom: $2.20; $2.15; $2.10; $2.05; $2.00; $1.95. New total revenue data, top to bottom: $0; $37.40; $66.65; $90.30; $108.65; $120.00; $126.75. New marginal revenue product data, top to bottom: $37.40; $29.25; $23.65; $18.35; $11.35; $6.75. The new labor demand is less elastic. Here, MRP falls because of diminishing returns and because product price declines as output increases. A decrease in the wage rate will produce less of an increase in the quantity of labor demanded, because the output from the added labor will reduce product price and thus MRP. Suppose that marginal product tripled while product price fell by one-half in Table 25.1. What would be the new MRP values in Table 25.1? What would be the net impact on the location of the resource demand curve in Figure 25.1? New MRP values (top to bottom): $21, 18, 15, 12, 9, 6, 3. The resource demand curve would shift up, with the MRP fifty percent greater for each quantity of resource demanded. In 2005 General Motors (GM) announced that is would reduce employment by 30,000 workers. What does this decision reveal about how it viewed its marginal revenue product (MRP) and marginal resource cost (MRC)? Why didnt GM reduce employment by more than 30,000 workers? By less 30,000 than workers? GMs decision suggests that the MRC of those 30,000 workers was greater than the MRP. GM didnt reduce employment further because the MRP of the remaining workers exceeds the MRC. Reducing employment by less than 30,000 workers would have left GM with some employees for whom the MRC exceeded the MRP, reducing the companys profits.
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The Demand for Resources 25-5 (Key Question) What factors determine the elasticity of resource demand? What effect will each of the following have on the elasticity or location of the demand for resource C, which is being used to produce commodity X? Where there is any uncertainty as to the outcome, specify the causes of the uncertainty. a. An increase in the demand for product X. b. An increase in the price of substitute resource D. c. An increase in the number of resources substitutable for C in producing X. d. A technological improvement in the capital equipment with which resource C is combined. e. A fall in the price of complementary resource E. f. A decline in the elasticity of demand for product X due to a decline in the competitiveness of product market X. Elasticity of demand for a resource is determined by: (1) ease of resource substitutability; (2) elasticity of product demand; and (3) ratio of resource costs to total costs. (a) Increase in the demand for resource C. (b) Uncertainty relative to the change in demand for resource C; answer depends upon which is larger the substitution effect or the output effect. (c) Increase in the elasticity of resource C. (d) Increase in the demand for resource C. (e) Increase in the demand for resource C. (f) Decrease in the elasticity of resource C. (Key Question) Suppose the productivity of labor and capital are as shown in the accompanying table. The output of these resources sells in a purely competitive market for $1 per unit. Both capital and labor are hired under purely competitive conditions at $3 and $1, respectively. Units of capital 1 2 3 4 5 6 7 8 MP of capital 24 21 18 15 9 6 3 1 Units of labor 1 2 3 4 5 6 7 8 MP of labor 11 9 8 7 6 4 1 1/2
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a. What is the least-cost combination of labor and capital to employ in producing 80 units of output? Explain. b. What is the profit-maximizing combination of labor and capital the firm should use? Explain. What is the resulting level of output? What is the economic profit? Is this the least costly way of producing the profit-maximizing output? (a) 2 capital; 4 labor. MPL /PL = 7 / 1; MPC /PC = 21/ 3 = 7 / 1. The least-cost combination is found by equating the ratios of the marginal products of each input to their prices.
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The Demand for Resources (b) 7 capital and 7 labor. MRPL / L = 1 ( = 1/ 1) = MRPC /PC = 1( = 3 / 3). Output is 142 (= 96 from capital + 46 from labor). Economic profit is $114 (= $142 - $28). Yes, least-cost production is part of maximizing profits. The profit-maximizing rule includes the least-cost rule. (Key Question) In each of the following four cases, MRPL and MRPC refer to the marginal revenue products of labor and capital, respectively, and PL and PC refer to their prices. Indicate in each case whether the conditions are consistent with maximum profits for the firm. If not, state which resource(s) should be used in larger amounts and which resource(s) should be used in smaller amounts. a. MRPL = $8; PL = $4; MRPC = $8; PC = $4 b. c. d. MRPL = $10; PL = $12; MRPC = $14; PC = $9. MRPL = $6; PL = $6; MRPC = $12; PC = $12. MRPL = $ 22; PL = $26; MRPC = $16; PC = $19.
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(a) Use more of both; (b) Use less labor and more capital; (c) Maximum profits obtained; (d) Use less of both. Florida citrus growers say that the recent crackdown on illegal immigration is increasing the market wage rates necessary to get their oranges picked. Some are turning to $100,000 to $300,000 mechanical harvesters known as trunk, shake, and catch pickers, which vigorously shake oranges from trees. If widely adopted, what will be the effect on the demand for human orange pickers? What does that imply about the relative strengths of the substitution and output effects? The effect of the adoption of the mechanical pickers will be to decrease the demand for human pickers. If this occurs, the substitution effect will have been greater than the output effect. (Last Word) Explain the economics of the substitution of ATMs for human tellers. Some banks are beginning to assess transaction fees when customers use human tellers rather than ATMs. What are these banks trying to accomplish? These banks are trying to produce using the least cost combination of resources. Given two resources, labor and capital, the least cost combination requires that the marginal product per dollar spent on each is equal. MPLabor MPATM (Capital) = PLabor PATM (Capital) With the introduction of the highly productive ATM machines, the MP/P of capital was greater than the MP/P of labor, to regain productive efficiency, (the least cost combination) the banks had to substitute capital for labor until the ratios are again equal. MPLabor MPATM (Capital) < PLabor PATM (Capital) Recall that using more of a resource lowers its marginal product and using less raises it.
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