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�Factor Markets
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Topic 5.3-
Profit-Maximizing Behavior in Perfectly Competitive Factor Markets
Perfectly Competitive Labor Market
Characteristics:
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Monopsony
The Labor Market
Perfect
Competition
Perfectly Competitive Labor Market and Firm
SL
DL
?
Wage
Q
Wage
Q
5000
$10
Market
Firm
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The Push-Up Machine
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The Push-Up Machine
The additional cost of an additional resource (worker).
In perfectly competitive labor markets the MRC equals the wage set by the market and is constant.
Ex: The MRC of an unskilled worker is $8.75.
Another way to calculate MRC is:
Marginal
Resource
Cost
=
Change in
Total Cost
Change in
Inputs
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Marginal Resource Cost (MRC)
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The additional revenue generated by an additional worker (resource).
In perfectly competitive product markets the MRP equals the marginal product of the resource times the price of the product.
Ex: If the Marginal Product of the 3rd worker is 5 and the price of the good is constant at $20 the MRP is…….
$100
Another way to calculate MRP is:
Marginal
Revenue
Product
=
Change in
Total Revenue
Change in
Inputs
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Marginal Revenue Product
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Calculate MP and MRP
The Push-Up Machine
Quantity Labor | Total Product | Marginal Product | MRP @ $1 Price |
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Supply
Demand
The Push-Up Machine
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Why does the MRP eventually fall?
The MRP determines the demand for labor
The Push-Up Machine
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Continue to hire until…
MRP = MRC
How do you know how many resources (workers) to employ?
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Teacher Tip
Some textbooks (and, at times, the AP exam) use different terms instead of the ones in these slides. For example, the marginal revenue product is sometimes called the “value of marginal product”. The marginal resource cost is sometimes called the “marginal factor cost”.
To avoid confusion, use these other terms in class and mention them to your students. Explain that these are just different terms and not different concepts.
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Perfectly Competitive Labor Market and Firm
DL
?
Wage
Q
Wage
Q
QE
WE
Industry
Firm
SL
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SL
DL
Wage
Q
Wage
Q
Industry
Firm
QE
WE
Qe
DL=MRP
SL=MRC
Side-by-side graph showing Market and Firm
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Teacher Tip
This is a good time to remind students why the supply curve is perfectly elastic, not the demand curve.
In a competitive product market, the products are identical and consumers have no reason to pay a price above the market price. The result is that the DEMAND is perfectly elastic.
In a competitive labor market, workers have identical skills and workers have no reason to accept a wage below the market wage. The result is that the SUPPLY of labor is perfectly elastic.
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Wage
Q
Qe
DL=MRP
SL=MRC
Perfect Competition Product Market vs. Resource Market
Price
D=MR
S=MC
Q
Qe
Product Market
Firm Producing Oranges
Resource Market
Firm Hiring Orange Pickers
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This videos comes with a worksheet. It is in the Ultimate Practice Packet
2008 AP Exam
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2008 AP Exam
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2012 AP Exam
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2012 AP Exam
Individual Firms
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Wage
Q
Qe
DL=MRP
SL=MRC
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You’re the Boss
To maximize profit how many workers should you hire?
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Workers
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
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*Hint*
How much is each worker worth?
Wage = $15
Price = $10
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27
Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
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Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
Marginal
Product
(MP)
-
7
10
7
3
2
1
-3
This shows the PRODUCTIVITY of each worker.
Why does productivity decrease?
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29
Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
Marginal
Product
(MP)
-
7
10
7
3
2
1
-3
Product
Price
0
10
10
10
10
10
10
10
Price constant because we are in a perfectly competitive market.
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30
Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
Marginal
Product
(MP)
-
7
10
7
3
2
1
-3
Product
Price
0
10
10
10
10
10
10
10
Marginal Revenue Product
0
70
100
70
30
20
10
-30
This shows how much each worker is worth
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Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
Marginal
Product
(MP)
-
7
10
7
3
2
1
-3
Product
Price
0
10
10
10
10
10
10
10
0
70
100
70
30
20
10
-30
Marginal Resource Cost
0
15
15
15
15
15
15
15
How many workers should you hire?
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Marginal Revenue Product
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Units of
Labor
Total
Product
(Output)
Use the following data:
0
1
2
3
4
5
6
7
0
7
17
24
27
29
30
27
Wage = $15
Price = $10
Marginal
Product
(MP)
Product
Price
Marginal Resource Cost
How many workers should you hire?
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Marginal Revenue Product
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Side-by-side Graphs
Use side-by-side graphs to draw a perfectly competitive labor market and firm hiring workers
SL
DL
Wage
Q
Wage
Q
Industry
Firm
QE
WE
Qe
DL=MRP
SL=MRC
Wage is set by the market
Demand/MRP falls
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SL
DL
Wage
Q
Wage
Q
Industry
Firm
QE
WE
Qe
DL=MRP
SL=MRC
What happens to the wage and quantity in the market and firm if new workers enter the industry?
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SL
DL
Wage
Q
Wage
Q
Industry
Firm
QE
WE
Qe
DL=MRP
SL=MRC
What happens to the wage and quantity in the market and firm if new workers enter the industry?
SL1
W1
Q1
SL1=MRC1
Q1
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Combining Resources
Up to this point we have analyzed the use of only one resource.
What about when a firm wants to combine different resources? Land & Labor...and Physical Capital
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Workers & Capital can be both complements & substitutes for each other.
Ex. a farmer gets 20 more tractors, which increases the demand for tractor drivers and will increase the marginal product of workers
Ex. substitute:20 more tractors can make up for and replace 100 farm hands
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This is the COST-MINIMIZATION RULE: firms adjust their input combo until the marginal product per dollar is equal for all inputs, while maintaining their desired output level.
This is also called the “least cost rule”
The least cost rule comes into effect when the college board asks us to evaluate two inputs for production. Labor and Capital,,, workers and machines.
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Ex. MPL=20 unit & Wage=$10
=Marginal Product per dollar 20/$10=2 units of output per dollar for labor
Ex. MPK=100 units & Rent=$100
=Marginal Product per dollar 100/$100=1 unit of output per dollar of capital
*hire more labor and rent less capital until they are equal. As you hire more workers, marginal productivity dec. and as you rent less capital, marg. prod. increases...
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Student Tip
The skills we will use are the same as the ones we used while maximizing utility at the end of Unit 2. But, this time, instead of of maximizing utility while buying two goods, we are maximizing output while buying two resources.
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Least Cost Rule
If you only have $35, what combination of robots and workers will maximize output?
# of Units | MP (Robots) | MP/PR (PriceR =$10) | MP (Workers) | MP/PW (PriceW =$5) |
1st | 30 | 3 | 20 | 4 |
2nd | 20 | 2 | 15 | 3 |
3rd | 10 | 1 | 10 | 2 |
4th | 5 | .50 | 5 | 1 |
$10
$5
How much additional output does each resource generate per dollar spent?
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Least Cost Rule
If you only have $35, the best combination is 2 robots and 3 workers
# Times Going | MP (Robots) | MP/PR (PriceR =$10) | MP (Workers) | MP/PW (PriceW =$5) |
1st | 30 | 3 | 20 | 4 |
2nd | 20 | 2 | 15 | 3 |
3rd | 10 | 1 | 10 | 2 |
4th | 5 | .50 | 5 | 1 |
$10
MPx = MPy
Px Py
$5
Resource x
Resource y
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Profit Maximizing Rule for Combining Resources
MRPx = MRPy =
MRCx MRCy
1
This means that the firm is hiring where MRP = MRC for each resource x and y
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2012 AP Exam
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2012 AP Exam
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2012 AP Exam
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What does this mean:
The marginal product of the last input of labor was 40 units produced and that labourer was paid $10. So for each $1 spent we received 4 units produced. 40/10 = 4
&
The marginal product of the last input of capital was 60 units produced and the rent was $20. So for each $1 spent we received 3 units produced. 60/20 = 3
Answer - We would want to hire more labor as (per dollar spent) on labourers produce a higher level of output. We want the biggest bang for the buck.
This is the simplest most straight forward way of presenting these problems…. don't expect it.
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2012 AP Exam
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2012 AP Exam
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2012 AP Exam
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2012 AP Exam
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2012 AP Exam
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https://www.youtube.com/watch?v=PK6-KdinxA0
Let’s try an AP FRQ from 2017 and go over it with our teacher….Mr.Clifford
2010 FRQ#2
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2008 Practice Form B FRQ
2008 Practice Form B FRQ