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Notes Chapter 14_Spring 2010

Notes Chapter 14_Spring 2010 - Lecture Notes for Pindyck...

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Lecture Notes for Pindyck and Rubinfeld Ch. 14 Markets for Factor Inputs Definitions: Derived Demand: Demand for an input that depends on, and is derived from, both the firm’s level of output and the cost of inputs. Marginal Revenue Product (MRP) : The additional revenue resulting from the sale of output created by the use of one additional unit of an input. In other words, d(TR)/dL. The marginal revenue product is also referred to as the “value of the marginal product.” Example – Labor Demand: The additional output created by hiring one more unit of labor is the MP L . MP L = dQ/dL What is the value of this additional output? It’s MR*MP L , because MR is the additional revenue brought in by an additional unit of output. Note: MR*MP L = (d(TR)/dQ)*(dQ/dL) = d(TR)/dL. The marginal revenue product of labor is the marginal benefit of hiring an additional worker. The wage is the cost of hiring an additional worker. Therefore, firms hire up to the point where w = MRP L . For wage < MRP L , the cost of hiring an additional worker is less than the benefit, so additional workers should be hired. For wage > MRP L , the reverse is the case. Another way of looking at this: Recall from chapter 7 that MC = w/MP L . Since with profit maximization we have MC = MR, then MR = w/MP L or w =MR*MP L The MRP L curve is downward sloping because MP L falls as L is increased. More generally, firms maximize profit by ensuring that MRP equals factor price.

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Competitive market model : We assume here that the output market is competitive in addition to the labor market being competitive. So competitive market forces determine output price of the good the firm produces. Competitive market forces also determine the wage firms pay to labor. Firms maximize profit by ensuring that MRP equals factor price • In the competitive market, marginal revenue = P, so the MRP is market price multiplied by the marginal product -Competitive firms face a horizontal labor supply curve. We are going to look at: 1. Competitive firm’s short-run demand for a variable input (labor) In the short-run demand for labor, capital is fixed. 2. Competitive firm’s long-run demand for an input (labor) Long-run factor demand flatter than short-run demand 3. Market demand for an input (labor) Market demand for a factor reflects output levels in product markets
Competitive market model : w , VMP L , \$ per unit Labor supply curve MRP L , Labor demand curve L , Workers per hour 6 2 0 3 4 5 (a) Labor Profit-Maximizing Condition 6 w = 12 9 18 15 MC , p , \$ per unit MC p 27 13 0 18 22 25 2 3 2.4 6 4 q , Units of output per hour (b) Output Profit-Maximizing Condition

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