Chap-7 - U N I T-V FACTOR PRICE DETERMINATION FACTOR PRICE...

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F ACTOR P RICE D ETERMINATION UNIT-V
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In Chapter 2 to Chapter 6, we examined the product markets: which good or service will be produced, and if so, how much and what its price will be. In other words we dealt with the central problem of “what” facing an economy. Households are demanders and firms are suppliers in product markets. In this chapter we examine factor or input markets, e.g., different types of labour or skill, capital (i.e. machinery and equipment), land etc. In factor markets, firms are demanders and households are suppliers. There are similarities and dissimilarities between product and factor markets. Dissimilarities arise because the demanders and suppliers in a factor market are opposite of who they are in a product market. The issues are different also. Instead of the economy’s central problem of “what,” the factor market analysis sheds light on the “for whom” problem. For example, consider the labour market. The price of labour service is the wage rate. We will learn how the wages to different types of labour are determined in a market economy. In general, earnings to different individuals in the form of wage income or income from land etc. determine income distribution in an economy. Income distribution, in turn, determines differences F ACTOR P RICE D ETERMINATION C HAPTER 7 7.1 Factor Demand 7.2 Total Factor Demand, Factor Supply and
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I NTRODUCTORY M ICROECONOMICS 124 in the purchasing power over goods and services among individuals or households. This is how the factor market implications are linked to central problem of “for whom.” The similarity between factor and product markets lies in that there is a demand side and there is a supply side of a factor. The equality between demand and supply of a factor determines the respective factor price. 7.1 FACTOR DEMAND 7.1.1 A Firm’s Problem At a given point of time, a firm faces different prices for different factors. For instance, think of a transport and storage company. It employs workers, rents warehouse space for storage etc. The prevailing hourly wage rate may be Rs. 15. Warehouse facility may be available at the rate of Rs. 50 per day per cubic metre of space. The question is, given factor prices, how much of different factors a profit-maximising firm should hire? On one hand, hiring more of factors will generate more output, which will generate more revenues (as long as the marginal revenue is positive). On the other hand, hiring more factors will cost more. 7.1.2 One Variable Factor To begin with, suppose that the employment levels of all factors, except one, are fixed, i.e., there is only one variable input and the rest are fixed. Let this variable factor be called labour, measured in hours of work. (If all workers are supposed to work a given number of hours per day, then we can measure labour as the number of workers hired.) In other words, we are not differentiating between different types of workers at the moment. The question is, how many labour hours (denoted by L ) a firm should employ?
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Chap-7 - U N I T-V FACTOR PRICE DETERMINATION FACTOR PRICE...

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