02 Jun Question Question 1. Suppose a worker has 112 hour
Question
Question 1. Suppose a worker has 112 hours a week, non-labor income of $150 a week, and a wage rate of $10/hour. Assume the price of consumption goods increases from $1 (implicitly assumed price) to $2. What is the effect of this increase on a worker’s reservation wage, probability of entering the labor force, and hours of work? (Hint: since the price of consumption goods is no longer unity, the vertical axis measures consumption units.)
Question 2. A firm can produce its output by varying the labor and capital mix. Assume regular shaped (i.e. convex) isoquant curves. Suppose the rental price of capital decreases.
a. Illustrate graphically the substitution and scale effects of the increase in the rental price of capital.
b. Does the optimal amount of capital used increase or decrease? Explain.
c. Does the optimal amount of labor used increase or decrease? Illustrate graphically the demand for labor. Are the two inputs gross complements on gross substitutes?
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