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Problem Set 7

# Problem Set 7 - Compensating Wage Differentials April 5...

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Compensating Wage Differentials April 5, 2010 1. Suppose there ar 100 workers in the economy in which all workers must choose to work a risky or a safe job. Worker 1’s reservation price for accepting the risky job is \$1; worker 2’s reservation price is \$2, an so on. Because of technological reasons there are only 10 risky jobs. (a) What is the equilibrium wage differential between safe and risky jobs? Which workers will be employed at the risky firm? (b) Suppose that over time the attitude of workers towards being employed in the risky job changes. Worker 1 now has a reservation price of - \$10, worker 2 has a reservation price of - \$9, and so on. There are still only 10 jobs. What is the new equilibrium wage differential? 2. Suppose that a drop in the compensating wage differential between safe jobs and risky jobs has been observed. Two explanations have been put forward. One is a supply side explanation and the other is a demand side explanation. Use supply and demand diagrams to show how each of the two can explain the drop in the compensating wage differential.

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