Consider for example a firm for which the value of totla output is 0 if it hires no workers, $20 if it hires one worker, and $30 if it hires two workers and $32 if it hires 3 workers. Suppose that the wage is $5. The firm will maximize its profits by hiring two workers. Does this maximize the marginal value product of labor? No. The marginal value roduct of the last worker hired is $10. If the firm hired one worker, the marginal product of this worker would be $20. Is $10 bigger than $20? Nahh....
Many people seem to be fooled by this question because it uses the right
words. They know that profit maximization has something to do with
looking at marginal value products. But a firm does not seek
to maximize its marginal value product of labor. The marginal
value product rule says that it should hire enough workers so that
the marginal value product of the last worker hired is at least as high
as the wage and the marginal value product of an additional
worker is no more than the wage.
True or False
If the supply curve is horizontal, then in competitive equilibrium,
sellers make zero profits.
True.
Draw the picture. With a horizontal supply curve, every unit sold
costs the same to produce and the supply curve crosses the demand
curve at a price equal to this cost. This leaves no profits
for firms. I mentioned this in lectures. If you did problem
3.8 of your homework, you would have discovered this fact. You also
would have found it when you solved for the competitive equilibrium price
in Experiment 4, Session 1.
Multiple Choice
The whifflegong problem.
You are asked to calculate excess burden. Obviously to answer
this question, you need to know the definition of excess burden.
What happens to the total number of units sold when the tax is imposed?
What is the total reduction in the profits of buyers and sellers?
What is the government's revenue?
What is the excess burden?
Those of you who got this one wrong will get another chance to answer
a question about excess burden on a later exam.
So I advise you to learn what excess burden is and how to calculate
it.
Multiple Choice
The shrimp harvest problem.
We see that the price fell by 15%. Since the price
elasticity of demand of demand is -1.4, it must be that quantity
ROSE by 21%. (Do you understand why?) If price falls by 15%
and quantity rose by 21%, what happened to revenue? Remember that
the percent change in revenues is approximately the percent change in price
plus the percent change in quantity.