1 Suppose your firm produces according to a function in whic

1, Suppose your firm produces according to a function in which capital and labour are perfect compliments. The wage rate is currently $120 per day and the daily capital cost is $100. If the wage rate falls to $100, does the substitution effect dominate the scale effect and ensure that more capital is used? Explain and justify your answer.

2,How is the own-wage elasticity of labor demand for unskilled workers affected by the elasticity of supply of other factors of production (such as skilled labor and capital equipment)? Explain.

Solution

Answer 1: Given that the two inputs are perfect compliments, there is no substitution eect in response to a change in factor prices. As such, any decrease in wage paid to labour will only induce an increase in the scale of production, thereby increasing both labour and capital equally.

Answer 2:

The Own-Wage Elasticity of Demand

1. _ii is relatively elastic labor demand if the % E_i > %W_i

2. _ii is relatively inelastic labor demand if the %E_i < %W_i

3. _ii is unitary elastic labor demand if the %E_i = %W_i

4. _ii is perfectly elastic labor demand if the %E_i is infinite for no %w_i

5. _ii is perfectly inelastic labor demand if the %E_i is zero for positive or negative changes in the wage rate (%w_i)

The Hicks-Marshall Laws of Derived Demand

These laws assert that, other things equal, the own-wage elasticity of demand for a category of labor is generally higher under the following conditions:  

The Supply of Other Factors

The Share of Labor in Total Costs

                , thus, the greater the category’s share in total  

                 costs, the greater the wage elasticity of demand.

Estimates of Own-Wage Labor Demand Elasticities

                          holding production technology constant

                                holding output constant