# Ch6.2 - Chapter Six 3 Price Determination 28 3.1 PRODUCTION...

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Chapter Six .P r i ce Determination 3 ce ete at o 28

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3.1 P RODUCTION F UNCTION he production function is the ey to the | The production function is the key to the economy’s supply side. he production function is the relation | The production function is the relation between the inputs used in production and the quantity of output produced. | To simplify the model, we assume that firms produce goods using labor as the only factor of production. | The production function takes the form: Y=AN, where Y = output; N = employment; A = labor productivity, or output per worker. 9 29
P RODUCTION F UNCTION | Assume that technology is fixed in the medium run, so the labor productivity (A) is constant. o simplify the notation we assume that is | To simplify the notation, we assume that A is equal to one. That is, one worker produces ne unit of output one unit of output. 0 30

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P RODUCTION F UNCTION | The assumption of constant A implies constant returns to labor in production. | For example, when firms double the umber of employed workers the amount number of employed workers, the amount of output doubles. or example if N increase by 10% the | For example, if N increase by 10%, the output will also increase by 10%. 1 31
P RODUCTION F UNCTION | The production function is rewritten as: Y=N. his production function implies that: | This production function implies that: • an increase in employment will cause an crease in output; and increase in output; and • the cost of producing one more unit of output is the cost of employing one more worker. Using the terminology in microeconomics, the 2 marginal cost of production is equal to W. 32

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P RODUCTION F UNCTION N (No. of workers Δ N Output Δ YA = Y/ N Total Cost MC ( Δ TC/ (N x W) Δ Y) 400 400 00 00 00 00 0 000 00 500 100 500 100 1 50,000 100 600 100 600 100 1 60,000 100 700 100 700 100 1 70,000 100 800 100 800 100 1 80,000 100 3 33 ± Wage : \$100 per worker
3.2 H OW DO FIRMS SET PRICE ?

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## This note was uploaded on 02/19/2011 for the course ECON 1021 taught by Professor Kokwanwai during the Fall '08 term at CUHK.

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Ch6.2 - Chapter Six 3 Price Determination 28 3.1 PRODUCTION...

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