Question #156325

The effort of a firm’s workers depends on their real wage according to the following schedule: Real Wage (w) 16 17 18 19 20 21 Effort (E) 10 13 18 22 25 26 The marginal product of labor is MPN E (400 4N) 30 1 = ⋅ ⋅ − , where E is effort level and N is number of workers employed.

(i) Using the table, calculate the effort-wage ratios and hence determine the efficiency wage. How many workers should the firm hire?

(ii) Suppose an adverse productivity shock reduces the marginal product of labor to MPN = 30 1 ⋅ E ⋅( ) 360− 4N . How would your answers to parts (a) change?

(iii) Draw diagram(s) and explain.

Expert's answer

(i) The efficiency wage is where the E/W is maximum which is 1.25 so the efficiency wage is 20.

The firm will hire at which W=MPN

20=25(400-4N)/30

4N=376

N=94 so the firm will hire 94 workers

(ii) There would be no effect on the efficiency wage

But the employment of workers will fall

20=25(360-4N)/30

N=84 workers

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