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Chapter 3 The Demand for Labor. Profit Maximization. Marginal Benefit Marginal Product (MP) MP = change in Q/change in L Marginal Revenue (MR) = P MB=MP*MR Marginal Expense = wages Optimal Solution: MB=ME. Short Run. K fixed Firm chooses Q Chooses L given K

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Chapter 3

The Demand for Labor


Profit maximization
Profit Maximization

  • Marginal Benefit

    • Marginal Product (MP)

    • MP = change in Q/change in L

    • Marginal Revenue (MR) = P

    • MB=MP*MR

  • Marginal Expense = wages

  • Optimal Solution: MB=ME


Short run
Short Run

  • K fixed

  • Firm chooses Q

  • Chooses L given K

  • Marginal Product of Labor changes



Figure 3.1

Demand for Labor in the Short Run (Real Wage)


Figure 3.2

Demand for Labor in the Short Run (Money Wage)


Long run
Long Run

  • K can vary

  • MRPL = MR*MP = wage

  • MRPK=MR*MP = cost of capital

  • If MR=P then P=w/MPL

    P=c/MPK

  • W/MPL=C/MPK


If wages rise
If wages rise

Equation is no longer equal

- cut L, raise K

  • MPL rises

  • MPK falls

  • Cut K

  • Adjust until optimal again

    Scale Effect – less of both

    Substitution Effect – less L, more K


Effect of Increase in the Price of One Input (k) on Demand for

Another Input ( j ), Where Inputs Are Substitutes in Production

Figure 3.3



Figure 3.8

Payroll Tax with a Vertical Supply Curve


Figure 3A.1

A Production Function


Figure 3A.2

The Decline Marginal Productivity of Labor


Cost Minimization in the Production of

Q* (Wage = $10 per Hour; Price of a Unit of Capital = $20)

Figure 3A.3


Cost Minimization in the Production of

Q* (Wage = $20 per Hour; Price of a Unit of Capital = $20)

Figure 3A.4


Figure 3A.5

The Substitution and Scale Effects of a Wage Increase


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