Widgets (Q) are produced using worker hours (L) and machine hours (K). At Firm A, labor and capital are fixed proportion inputs where each widget is produced using exactly 4 worker hours and 2 machine hours. At Firm B, labor and capital are perfect substitute inputs, where each widget can be produced in 120 minutes by a worker or in 30 minutes by a machine. Each firm has a production quota of 100 units of output and wants to choose labor and capital to minimize cost. The wage rate is $7.25/hour, and the rental rate on capital is $30/hour.

a. What are the cost-minimizing levels of labor and capital that will enable each firm to meet its production quota?

b. Now suppose the wage rate increases to $10/hour. Use an isoquant/isocost framework to graphically depict each firm’s response to this increase in the price of labor, assuming it once again chooses the cost minimizing levels of labor and capital to meet its production quota.

c. What do your answers to part b reveal about the relationship between input substitutability and input elasticity of demand?

Answer rating: 100% (QA)

a Costminimizing levels of labor and capital Firm A Fixed proportions 4 worker hours and 2 machine h... View the full answer