Long Run Demand for Labor

Slides:



Advertisements
Similar presentations
Learning Objectives Delineate the nature of a firm’s cost – explicit as well as implicit. Outline how cost is likely to vary with output in the short run.
Advertisements

Labor Demand in the market in the short run.
Isoquants An isoquant is a curve or line that has various combinations of inputs that yield the same amount of output.
Cost and Production Chapters 6 and 7.
Long Run Demand for Labor
Chapter 7 (7.1 – 7.4) Firm’s costs of production: Accounting costs: actual dollars spent on labor, rental price of bldg, etc. Economic costs: includes.
Demystifying Efficiency in the Economics Classroom David A. Anderson Centre College.
PRODUCTION As always, the firm will organize its means of production to maximize profit. Chapter 5 slide 1 To do this it must balance input productivity.
1 A Closer Look at Production and Costs CHAPTER 7 Appendix © 2003 South-Western/Thomson Learning.
Chapter 9: Production and Cost in the Long Run
Costs, Isocost and Isoquant
Chapter 9: Production and Cost in the Long Run McGraw-Hill/Irwin Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.
Chapter 7Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved 1 ECON Designed by Amy McGuire, B-books, Ltd. McEachern.
1 Elasticities. 2 In economics we use the concept of elasticity to compare percentage changes in pieces and quantities. The price elasticity of demand.
1 Production and Costs in the Long Run. 2 The long run u The long run is the time frame longer or just as long as it takes to alter the plant. u Thus.
Isocost Lines An isocost line is a line showing combinations of inputs that would yield the same cost.
Costs and Cost Minimization
1 Labor Demand and Supply. 2 Overview u In the previous few chapters we have focused on the output decision for firms. Now we want to focus on the input.
UNIT II: Firms & Markets
Multiple Input Cost Relationships
1 Production and Costs in the Long Run. 2 The long run u The long run is the time frame longer or just as long as it takes to alter the plant. u Thus.
Economics of Input and Product Substitution
UNIT II:Firms & Markets Theory of the Firm Profit Maximization Perfect Competition/Review 7/15 MIDTERM 7/1.
Cost Minimization An alternative approach to the decision of the firm
Labor Demand in the Long Run. The long run in the long run, all inputs are variable, model used in discussion has 2 inputs: L (labor) and K (capital).
Multiple Input Cost Relationships. Output is identical along an isoquant Output is identical along an isoquant Isoquant means “equal quantity” Two inputs.
1 Chapter 7: Costs and Cost Minimization Consumers purchase GOODS to maximize their utility. This consumption depends upon a consumer’s INCOME and the.
Managerial Economics & Business Strategy
Chapter 8 Cost McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All Rights Reserved.
Cost. Overview In this section we want to translate the production data into cost data. In other words, we will want to understand how the cost of producing.
PPA 723: Managerial Economics
1 Costs APEC 3001 Summer 2007 Readings: Chapter 10 & Appendix in Frank.
Applied Economics for Business Management
10.1 Chapter 10 –Theory of Production and Cost in the Long Run(LR)  The theory of production in the LR provides the theoretical basis for firm decision-making.
Chapter 3 Labor Demand McGraw-Hill/Irwin
Slide 1  2005 South-Western Publishing Production Economics Chapter 6 Managers must decide not only what to produce for the market, but also how to produce.
Short-run Production Function
PRODUCTION AND ESTIMATION CHAPTER # 4. Introduction  Production is the name given to that transformation of factors into goods.  Production refers to.
1 SM1.21 Managerial Economics Welcome to session 5 Production and Cost Analysis.
Chapter 8 Cost McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All Rights Reserved.
Production Cost and Cost Firm in the Firm 1 © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part,
Chapter 7 Costs and Cost Minimization. Introduction The last chapter considered how to represent production in economic theory This chapter presents cost.
Next page Chapter 5: The Demand for Labor. Jump to first page 1. Derived Demand for Labor.
Theory of Production & Cost BEC Managerial Economics.
Chapter 7 The Cost of Production. Chapter 7Slide 2 Topics to be Discussed Measuring Cost: Which Costs Matter? Cost in the Short Run Cost in the Long Run.
Chapter 7 Production and Cost in the Firm © 2009 South-Western/Cengage Learning.
AAEC 2305 Fundamentals of Ag Economics Chapter 6 Multiple Inputs & Outputs.
Chapter 8 Cost. Types of Cost Firm’s total cost is the expenditure required to produce a given level of output in the most economical way Variable costs.
UNIT II:Firms & Markets Theory of the Firm Profit Maximization Perfect Competition Review 7/23 MIDTERM 7/9.
Chapter 8 Cost McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All Rights Reserved.
Production & Costs Continued… Agenda: I.Consumer and Producer Theory: similarities and differences II. Isoquants & The Marginal Rate of Technical Substitution.
Isocost Curve & Isoquant
1 Chapters 8: Costs of Production. 2 Cost Definitions Total cost (TC) = all costs of production –If r is the cost of capital (rental cost), and w is the.
Managerial Economics and Organizational Architecture, 5e Managerial Economics and Organizational Architecture, 5e Chapter 5: Production and Cost Copyright.
Production functions and the shape of cost curves The production function determines the shape of a firm’s cost curves. Diminishing marginal return to.
9-1 Learning Objectives  Graph a typical production isoquant and discuss the properties of isoquants  Construct isocost curves  Use optimization theory.
Production and Cost in the Long Run Nihal Hennayake.
9-1 Learning Objectives  Graph a typical production isoquant and discuss the properties of isoquants  Construct isocost curves  Use optimization theory.
A Closer Look at Production and Costs
1 Chapter 7: Costs and Cost Minimization Consumers purchase GOODS to maximize their utility. This consumption depends upon a consumer’s INCOME and the.
Production & Costs Goal: To make sense of all the different costs & curves Strategy: Play the Airplane Game!
Chapter 9: Production and Cost in the Long Run
Short-run Production Function
Costs.
Chapter 9 Production and Cost in the Long Run
ECN 201: Principles of Microeconomics
Chapter 6 The Cost of Production Chapter 6 1.
Production & Cost in the Long Run
A Closer Look at Production and Costs
Costs.
Presentation transcript:

Long Run Demand for Labor

The long run The long run is the time frame longer or just as long as it takes the firm to alter the physical plant or production facility. Thus the long run is that time period in which all inputs are variable.

cost and output K On this slide I want to concentrate on one level of output, as summarized by the isoquant. Input combination E1, K1 could be used and have cost summarized by 4th highest isocost shown. E2, K2 would be cheaper, and E*, K* K1 K2 K* E E1 E2 E* is the lowest cost to produce the given level of output. Here the cheapest cost of the output occurs at a tangency point.

cost and output On the last screen we saw the tangency of an isoquant and isocost line shows the cheapest way to produce a certain level of output. The exception to reaching the tangency would be the short run when the amount of some input can not be changed to reach the tangency. In the long run all inputs can be changed in amount and thus the tangency point could be reached.

short run K Here the cheapest way to produce the output level as depicted in the isoquant would be to hire E*, K*. But maybe the firm has committed to having K1 units of capital. Thus the cost of this output is indicated by the fourth highest isocost line. K1 K2 K* E E1 E2 E* We could follow K1 out and see costs of other levels of output(by putting in more isoquants).

Tangency means equal slopes So in the long run when the firm has minimized cost we see a tangency of the slopes of the isoquant and an isocost line. The slope of the isocost line is the negative of the ratio of input prices  -(w/r), And the slope of the isoquant is the negative of the ratio of marginal products  -(MPE/ MPK). So the tangency means -(MPE/ MPK) = -(w/r) and the negative signs cancel out.

Economic meaning of this tangency The equality on the previous page can be rewritten as MPE/w = MPK/r. This says the ratio of the marginal product of each input to the inputs price has to be equal across all inputs for the firm to minimize the cost of making a level of output. Numerical example: Say MPE= 20, w = 10, MPK= 200, r = 100. Then we have 20/10 = 200/100 = 2/1. This means the last dollar spent on each input must yield the same increment to output. Here 2 units of output is obtained from the last dollar spent on each input.

Marginal product per dollar spent The statement on the end of the previous screen is that the marginal product per dollar spent must be equal across all inputs. What if it was not? Remember that if you take more of an input the marginal product diminishes (and thus if you take less the marginal product rises). Say the marginal product of capital is 100 and the price is 10 and the marginal product of labor is 20 and the price is 5. So per dollar spent you get 10 units of output from capital and 4 units from labor. Capital has more “bang for the buck,” so take more capital and less labor to move toward equality of ratios.

Another view We saw to have cost minimization we need MPE/w = MPK/r. If we take the inverse of these ratio’s we have w/MPE = r / MPK . Recall that that w is the wage and is the change in cost from hiring an additional laborer and MPE is the marginal product of labor, so the ratio is really the marginal cost of production. Another way to see the tangency condition is to say the marginal cost of output is the same for each input used.

profit maximization Firms want to maximize profit. To maximize profit they have to sell the right amount of output and produce that output at the lowest cost. We have just seen lowest cost means produce at a tangency point. In a competitive environment to maximize profit means to sell the output level where the price is equal to the marginal cost. Both of these statements imply w/MPE = r / MPK = p, and thus w = pMPE and r = pMPK. In other words, to maximize profit produce where the wage is equal to the value of the marginal product of labor and where the price of capital is equal to the value of the marginal product of capital.

wage fall and impact on isocost line K If the wage falls the isocost line rotates counterclockwise. The isocost line becomes flatter. More labor can be purchased given a cost amount. NOTE, the total cost or budgeted amount is the same on both lines. E

substitution and scale effects of a wage fall. K R P E

substitution and scale effects of a wage fall On the previous screen when the wage falls the budget flattens and shifts out and the firm moves from point P to point R. You can see the demand for labor by the firm rises as the wage falls. On the next slide this movement from P to R is broken into two moves: from P to Q and from Q to R. P to Q is called the substitution effect of a lower wage. Q to R is called the scale effect of a lower wage.

substitution and scale effects of a wage fall. K Q R P E

scale effect The movement from P to Q is called the scale effect. If capital and labor are both “normal inputs” (meaning if at the original input prices an increase in expenditure and hence output would mean both inputs used will increase). So, when the wage falls the scale effect says take more labor as the scale of output is increased.

The substitution effect is a concept designed to show us the impact on the demand for labor when the wage changes, BUT the level of output is held constant. The movement from P to Q then is showing the change in the input mix because of the wage change, at the same level of output. As the wage falls, labor is relatively cheaper and thus firms take more of it in substitution of the relatively more expensive capital.

Interior solution Recall we said at an interior solution the slopes of the isocost and isoquant are tangent. This means (MPE/ MPK) = (w/r). The isocost again was K = C/r – (C/w)E. If given information on the functional form of the production function and with information about w and r these two equations can be used to solve for values of K and E.