Managerial Economics & Business Strategy Chapter 4 The Theory of Individual Behavior

Labor-Leisure Choices What do I have to do to get you to give up some of your leisure? n Compensate you Overtime Extra credit n 24 hours in a day to split up between work and leisure n Total Earnings (E) = Fixed payment + wage (24 – leisure hours)

hours of leisure 8 hours of work Leisure (per day) Income (per day)

Which is better: overtime or higher wages? For consumers? n Higher wages For firms? n Overtime People tend to work more hours with overtime Leisure is a NORMAL good –Wages increase consume more leisure

Managerial Economics & Business Strategy Chapter 5 The Production Process and Costs

Production Analysis Production Function n Q = F(K,L) n The maximum amount of output that can be produced with K units of capital and L units of labor. Short-Run vs. Long-Run Decisions n SR  some fixed and variable inputs n LR  everything is variable Fixed vs. Variable Inputs n Fixed  cannot be changed right now Sometimes denoted as K* n Variable  can change at anytime

Cobb-Douglas Production Function Q = F(K,L) = K.5 L.5 n K is fixed at 16 units. n Short run production function: Q = (16).5 L.5 = 4 L.5 n Production when 100 units of labor are used? Q = 4 (100).5 = 4(10) = 40 units

Important terms Total Product n Maximum level of output that can be produced given inputs. n Do we always get the maximum?? Average Product n Q/L or Q/K n Good for looking overtime or comparisons of firms Marginal Product n Additional (or change in output) due to a change in an input n Increases and then decreases  Why??

Marginal Productivity Measures Marginal Product of Labor: MP L =  Q/  L n Output produced by the last worker. n Slope of the short-run production function (with respect to labor). How do you find the slope of a function??? –First Derivative Marginal Product of Capital: MP K =  Q/  K n Output produced by the last unit of capital. n Slope of the production function (with respect to capital).

What are they???

Average Productivity Measures Average Product of Labor n Q = F(K,L) = K.5 L.5 If the inputs are K = 12 and L = 16, what is the average product of labor AP L = [(12) 0.5 (16) 0.5 ]/16 = Average Product of Capital n Q = F(K,L) = K.5 L.5 n If the inputs are K = 12 and L = 16, then what is the average product of capital n AP K = [(12) 0.5 (16) 0.5 ]/12 =

Q L Q=F(K,L) Increasing Marginal Returns Diminishing Marginal Returns Negative Marginal Returns MP AP Increasing, Diminishing and Negative Marginal Returns

Important points MP L is at its maximum at the change in concavity of the TP curve MP L intersects the AP L at its maximum MP L is zero where TP reaches its maximum