Name _________________TEDJO IMARDJOKO________________

Date__02/07/2020_______ last 4 PSU ID ___8841____

Economics 304WD -- Homework - Lesson 3 – The Factors of Production, The Labor

Market, and Aggregate Supply -- 130 points (5 points per part)

• You need to show your work, not just the final answer
• Use the template to complete your work or points will be taken off.
• Please put your name and PSU ID number at the top of the page
• Save the file on your computer (.PDF is the only format allowed) and then upload it
to the Canvas dropbox for this homework assignment.
• Be sure your assignment is all on one file. Failure to submit a single file will result in
points being deducted

1. The production technology of a firm is given by the following equation:

𝑌 = 15𝐾 ." 𝑁 ."

Assume K initially equals 25

a. Fill in the first blank column below, showing what the output is per different
number of workers. Round the nearest two decimal places.

Number of workers Units of output MPN MRPN (P=6)

0 0 0 0
1 75 75 450
2 106.07 31.07 186.40
3 129.90 23.84 143.03
4 150.00 20.10 120.58
5 167.71 17.71 106.23
6 183.71 16.01 96.04
7 198.43 14.72 88.32

b. Define the marginal product of labor and explain how it relates to the production
function (with N on horizontal axis and Y on vertical axis).

The marginal product of labor is the result of a change in output from adding a unit of labor.

Marginal product of labor is the slope of the production function.

1
 c. Assume that the price of a unit of output is $6. Find the marginal product of labor
(MPN) and the marginal revenue product of labor for each level of employment
(fill in the third column of table above).

d. Calculate the number of workers that will be hired if the nominal wage rate =
$140. Calculate the number of workers the firm will hire if the nominal wage is
$110. Calculate the number of workers that the firm will hire if the nominal wage
is $90. Please show your work.

If W = $140, N = 3

If W = $110, N = 4

If W = $90, N = 6

e. Why exactly does the firm’s behavior change when the nominal wage fall like it
did, all else constant? In particular, explain exactly why the firm changes their
labor input when nominal wages fall from $140 to $110, all else constant. Make
sure you refer to the profit maximizing condition when answering this question.
Firms increased their labor input because the wages fall from $140 to $110. They want to
maximize profit by increasing their labor input to gain additional output.

2
Assume that an event makes the new production function equal to:

𝑌 = 20𝐾 ." 𝑁 ."

f. Fill in the table below.

Number of workers Units of output MPN

0 0
1 100 100
2 141.42 41.42
3 173.21 31.78
4 200 26.79
5 223.61 23.61
6 244.95 21.34
7 264.58 19.63

g. List and explain two real life examples of events that could cause this change to
the production function.

1. A more advanced technology is implemented that can speed up production and

give more output.
2. A new materials is discovered which is more clean and produces more output.

3
 2. Consider an economy with the following characteristics:

𝑀𝑃𝑁 = 500 − 3𝑁
𝑁 # = 24 + 14𝑤 + 3𝑇

where w is the real wage, and T is a lump-sum tax levied on individuals.

Suppose that initially T = 38.

a) Compute equilibrium values for the real wage and employment. Round your
answer to two decimal places.

500 – 3N = w
3N = 500 - w
N^d = 166.67 – 0.33w

Equilibrium:
N^d = N^s
166.67 – 0.33w = 24 + 14w + 3T
166.7 – 0.33w = 14w +138
w=2

N = 24 + 14*2 + 3*38 = 166

w= employment (N) =
2 166

b) Illustrate this equilibrium on a labor market diagram. Please be sure you label the
diagram completely and label this initial equilibrium point as point A.

Wage

Employment
 c) Now this economy passes a law and pays a minimum wage equal to $5. Compare
the number of people willing to work (label as point B on your diagram) vs. the
number of people willing to be hirer (label as point C on your diagram) under this
living wage program.

24 + 14*5 + 3*38 = 208

# of people willing to work w = 5: 208

166.7-5*0.33 = 165

# of people firms are willing to hire w = 5: 165

d) Compare the number of people willing to work (label as point B) vs. the number
of people willing to be hired (label as point C) under this living wage program.
What is the value and what do we call this difference? Also, what value represents
the number of people who are employed?

Difference:
43 It’s called:
Labor Surplus

165
# of people employed:

5
 e) Was this change in the number of people employed due to a shift or a movement
along the demand curve? (circle your answer)

Shift Movement Along

f) Intuition: Why does the profit maximizing level of labor input change with the
living wage program (make sure you write out the profit maximizing condition
and explain why it has changed i.e., why does the hiring company rationally
change their quantity demanded of labor the way they did)?

Again the goal of the firms is always to maximize profit. So since the wage rate is high with the
living wage program, firms will cut labor to maintain profit maximizing.

g) Intuition. We also experience a movement along the labor supply curve. Explain
the intuition here as in why are more people are willing to work using and
explaining the substitution and income effects associated with labor supply.
Which effect dominates and what has happened to the price of leisure given the
living wage program?

People will choose to work more to substitute leisure with work because the wage rate is high.
Here the substitution effect dominates.

6
Suppose now that there is a new marginal product of labor equals 𝑀𝑃𝑁 = 629 − 3𝑁.

h) List and explain two real-life examples that could cause the MPN to change like
this.

1. New technology which improves production. More efficient work is created.

2. Worker becomes more efficient through experience. They will produce more output
efficiently in the long term.

i) Find the equilibrium ‘market’ clearing wage and level of employment. Please
show all work below.

629 – 3N = w
3N = 629 - w
N^d = 209.67 – 0.33w

Equilibrium:
N^d = N^s
209.67 – 0.33w = 24 + 14w + 3*38
209.67 – 0.33w = 14w + 138
w=5
N = 24 + 14 *5 + 3 * 38 = 208

w= 5 employment = 208

j) Please depict this new development on your original diagram labeling this new
equilibrium point as point D in your diagram in part b.

k) Intuition: Compare the welfare of the workers under the two scenarios: 1) the
living wage program vs. 2) no living wage program but the productivity shock as
in part g. In other words, are workers better off in part c) or are they better off in
part i)? Be sure to explain.

It is better for workers to be in part g where there is productivity shock.

7
 3. An economy’s aggregate production function is given by Y = A·K·N – N2. The
marginal product of labor for this production function is MPN = A·K – 2N.

a) Assume that A = 3 and K = 16. Suppose that the labor supply function for this
economy is given by NS = 4 + w. Find the equilibrium real wage rate, the full
employment level of employment, and the full-employment level of output for
this economy. Round everything to 2 decimal places. Note: it is OK to have
fractions of workers or fraction of output.

AK - 2N = w
3*16 – 2N = w
N^d = 24 – 0.5w

Equilibrium:
N^d = N^s
24 – 0.5w = 4 + w
w = 13.33
N = 4 + w = 4 + 13.33 = 17.33
Y = 3*16*17.33-17.33^2 = 521.51

w=
13.33 N=
17.33

Y=
521.51

8
b) Draw a production function and labor demand curve vertically as we did in the
videos (many times) and label these initial equilibrium points as A.

9
 c) Suppose that a new innovation leads to a decrease in total factor productivity so
that A decreases to 2.5 (yes, innovations can lead to worker productivity falling…
think social media). Everything else remains as in part a). Find the equilibrium
real wage rate, the full employment level of employment, and the full-
employment level of output for this economy and label on your diagrams as point
B. Round everything to 2 decimal places. Note: it is OK to have fractions of
workers or fraction of output.

AK - 2N = w
2.5*16 – 2N = w
N^d = 20 – 0.5w

Equilibrium:
N^d = N^s
20 – 0.5w = 4 + w
w = 10.67
N = 4 + w = 4 + 10.67 = 14.67
Y = 2.5*16*14.67-14.67^2 = 371.59

w=
10.67 N=
14.67

Y=
371.59

d) List and explain two reasons as to why A could have changed like this.

1. New technology will take time to adjust.

2. Laborers will take time to learn how to use the new technology implemented.

10
 e) Let’s go back to our initial conditions (point A). Instead of a change to A
impacting the economy, assume that K is now equal to 18. Everything else is as it
was in part a). (In particular, A = 3.) Find the new levels of the equilibrium real
wage rate, the full employment level of employment, and the full-employment
level of output for this economy and label (on both diagrams) as point C. Round
everything to 2 decimal places. Note: it is OK to have fractions of workers or
fraction of output.

AK - 2N = w
3*18 – 2N = w
N^d = 27 – 0.5w

Equilibrium:
N^d = N^s
27 – 0.5w = 4 + w
w = 15.55
N = 4 + w = 4 + 15.33 = 19.33
Y = 3*18*19.33-19.33^2 = 371.59

w=
15.33 19.33
N=

Y=
670.17

f) List and explain two reasons as to why K could have changed like this.

1. K can increase with new technology which improves production

2. K can increase if additional capital is brought in.

11
 g) Instead of a change to A or a change in K impacting the economy (we are back to
point A), suppose that there is a change in the supply of labor such that we have
NS = 3 + w (All else remains as in part a)). (In particular, A = 3 and K = 16.) Find
the new levels of the equilibrium real wage rate, the full employment level of
employment, and the full-employment level of output for this economy and label
on your diagrams as point D. Round everything to 2 decimal places. Note: it is
OK to have fractions of workers or fraction of output.

AK - 2N = w
3*16 – 2N = w
N^d = 24 – 0.5w

Equilibrium:
N^d = N^s
24 – 0.5w = 3 + w
w = 14
N = 3 + w = 3 + 14 = 17
Y = 3*16*17-17^2 = 527

w=
14 N=
17

Y=
527

h) Give two well supported answers as to why Ns might have changed as it did in
part g) above.

1. Labor supply can decrease due to people substituting leisure for labor.
2. Labor supply can also reduce if wages are lowered.

12