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Unformatted text preview: firm is guided by the principles of profit maximization when making these decisions. Robinson, in his role as the worker, will collect income from working which he will use as his constraint as the sole consumer when he decides how many coconuts to buy. Bobby C, in his role as the firm's sole shareholder will collect the firm's profits. In order to keep track of the transactions, Bobby C and Robinson come to an agreement on a currency called sand-dollars, or dollars for short. They also agree that one coconut will be worth one dollar (numeraire good = coconuts). Now all they need to agree on is a wage rate... We want to consider this "economy" after it has been established and has been operating for a period of time and everything has settled into an equilibrium. In this equilibrium state, the demand for coconuts equals the supply of coconuts and the demand for labour equals the supply of labour. Both Bobby C's Inc. and Robinson the Consumer will be making optimal choices given the constraints that they face. THE POINT OF VIEW OF BOBBY C's INC. Each night, Bobby C's Inc. decides how much labour it wants to hire for the next day and how many coconuts it wants to produce. Given a price of $1 for coconuts and a wage rate of labour, w, we can solve the firm's profit maximization problem. We first consider all of the combinations of coconuts and labour that yield a constant level of profits (isoprofit line), . This means that = C wL 146 solving for C, we get C = + wL This formula describes a family of isoprofit lines all combinations of coconuts and labour that yield profits of . Bobby C's Inc. will choose the point where profits are maximized. As always, this means they will choose the point of tangency where the slope of the production function (marginal product of labour) is equal to the slope of the isoprofit line, which is simply w. Coconuts Isoprofit Line Production Function C*
Profit = * Labour L* Thus, the vertical intercept of the isoprofit line measu...
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- Spring '10