Question

1. Assume that the only input of production for a hypothetical firm is labor. We are interested in the causal relationship between Quantity produced (??) and Price of labor (??), which, in this case is simply price of labor or simply wage.

a- What factors affect the producer’s decision regarding how much to produce? Just name them.

b- What factors we need to hold constant to be able to correctly hypothesize about the causal relationship between ?? and ??? Just name them.

c- Holding those factors you mentioned in part b constant, do you expect quantity produced to increase or decrease as a result of an increase in price of labor? Explain and draw your answer on a diagram (where the horizontal axis refers to quantity and the vertical axis refers to price of labor).

d- Assume that a technological innovation happens in this market. How the graph you drew in part c is affected as a result? Explain and illustrate your answer on a diagram.

e- Assume that the price of the firm’s output falls. How the graph you drew in part c is affected as a result? Explain and illustrate your answer on a diagram.

Answer 1

We have to define causal relationship between quantity produced by a firm and the wages it pays to labor.

a) Factors that affect producer's decision are: price of it's own commodity, price of factors of production(wages), price of it's substitutes and complements and consumer's preferences.

b) We need to hold every factor other than wages constant to see the relationship between wages and quantity produced.

c) An increase in wage increases the cost of production. Increased cost of production tend to lower the optimum quantity to produce. So, we expect a negative relationship between the two:

d) A technological innovation increases the productivity of labor. So at same wages, labor can produce more quantity. So, this schedule will shift to right:

e) Price of firm's product falls. So, firm will supply less of product. In respect to wage-quantity diagram, this means that for every wage, firm will produce less. So, schedule will shift to the left: