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Econ 339 Winter 200 Midterm II - Solutions

# Econ 339 Winter 200 Midterm II - Solutions - Northwestern...

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Northwestern University Department of Economics ECON 339 Labor Economics - Professor: Steffen Habermalz Second Midterm Examination – March 7 th 2007 INSTRUCTIONS : Answer all questions. Make sure you show ALL your work. 1. Compensating Differentials a. (4 pts.) Assume that a researcher estimates that in order to accept a 0.005 higher risk of death on the job a worker has to be compensated with an extra \$20,000. Use this information to calculate the statistical value of a life. An increase in the risk of death of .005 means that 5 out of 1000 people die. This means that per person we need to compensate \$4000 per 1000 persons. This gives us a statistical value of a life of \$4000*1000=\$4,000,000 b. (8 pts.) Explain what an isoprofit curve is in the context of the trade-off between wages and workplace safety and then use an isoprofit curve and a worker’s indifference curve to explain that safety regulations (a legislated minimum standard of workplace safety) can make both the worker and the firm worse off. Isoprofit Curve shows the trade-off between workplace safety and wages for a given level of profit. (2 - if we graph workplace safety as an increasing function on the horizontal axis the isoprofit curve slopes downward because more safety will mean less wages - It is concave because of decreasing marginal returns in the production of safety - first figure shows worker-firm match (3) - Since Market is competitive only Zero-profit Isoprofit curve is valid Workers match with firms as shown in the first figure. Now if there is a minimum standard of safety either the firm will incur a loss or the

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worker’s utility declines or both (shown).(3)
2. Human Capital Theory: Π= Wage Workplace Safety P min Α Π<0 Wage Workplace Safety P min Β Α

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a. (6 pts.) Use the concept of a wage schooling locus to illustrate ability bias in estimating the returns to education. A wage schooling locus shows the wage a person can earns for different levels of schooling . Decreasing returns to education are assumed. For higher ability workers the wage-schooling locus shifts upward (2). The returns to education should be estimated by “nudging” an individual along the locus (2). However, if we don’t observe a persons ability we cannot
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Econ 339 Winter 200 Midterm II - Solutions - Northwestern...

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