Answer to Question #134821 in Microeconomics for ouoba

Question

Suppose a firm finds that the marginal product of capital is 60 and the marginal product of labor is 20. If the price of capital is $6 and the price of labor is $2.50, describe how the firm should adjust its mix of capital and labor? What will be the result?

Answer 1

solution

given that

marginal product of capital(MPK)=60

marginal product of labor (MPL)=20

wage rate(w)=2.50$

price of capital(r)=6$

for a firm employing labor and capital as input then best combination occur at

$\frac{MPL}{W}=\frac{MPK}{r}$

so

$\frac{MPL}{W}=\frac{20}{2.50}\\\\\\$

$\frac{MPL}{W}=8$

and

$\frac{MPK}{r}=\frac{60}{6 }$

$\frac{MPK}{r}=10$

so we can see that

$\frac{MPL}{W} <\frac{MPK}{r}\\$

$8<10$

so to attain the best input mix , the firm should hire more labor and hire lass capital so that marginal product of labor increase and marginal product of capital reduces until the equilibrium

is attained.