Answer to Question #286674 in Macroeconomics for Jake

Question

Suppose that, due for example to reconstruction after a war , the capital stock of a nation increases. Use the graphical framework of Figure3-4(CH 3 Froyen) to illustrate the effect that the increase in the capital stock would have an output, employment and the real wage in the classical model.

Answer 1

Solution:

In the classical model, the capital-output is determined by the employment of labour. The level of output establishes in the employment market by supply and demand of labour. When capital stock increases the level of labour supply will increase and labour demand will decrease. MC of employment is equal to the money wage divided by the marginal product of labour. The equilibrium level of employment and the real wage rate is indicated at the point where the positive slopping labour supply curve cuts the negative sloping labour demand. In this case where there is an increase in capital stock the supply of labour will increase and this will raise the wages.