Chapter 1

P2: Use the simple supply and demand framework to explain what would happen to wages and employment levels if there were an increase in

a)      The demand for steel

Under the assumption that capital and labor are gross substitutes, the effect is that the demand for labor increases and the demand curve shifts rightward.  This will cause the equilibrium level of employment and the equilibrium wage to increase.

Even though I am typing these answers, you should ALWAYS graph your responses when appropriate.  You will be required to graph even these simple supply and demand diagrams on the tests to get full credit.  I emphasize this because I believe this to be not only important, but also an area that some may be weak at.  Programs like Aplia, D2L, and Blackboard reduce our full knowledge of the model.

b)      The size of  the labor force N

An increase in the working population, N, results in an increase in the labor supply which corresponds to a rightward shift in the supply curve.  This increases the level of employment and lowers the wage.

What does the later suggest about the effects of immigration?

The result suggests that immigration will lower the wages for those currently living in America.

P4: Academic economists often have the option of working in the private sector rather than in colleges and universities.  Explain what would happen to the earnings of the typical economics professor if there were a sudden increase in the demand for private-sector economists.

This question deals with the effects of an increase in the alternative wage, W^A.  In particular, as the alternative wage increases, some economists would switch from employment in academia to employment in non- university institutions.  As this happen, the supply of labor to academia shits leftward.  In turn, the wage earned by academic economists increases and the level of employment declines.

P6:  Let L denote the level of employment (measured in thousands of worker hours), and $W the hourly wage.  Suppose that the supply of labor is given by L^S = 10 + 2∙W and that the demand for labor is given by L^D = 40 − W.

Calculate the equilibrium wage and level of employment.

Let “*” connote equilibrium.  In equilibrium, the demand for labor and supply of labor are equal, so L* = LD = LS.  Therefore,

40 − W* = 10 + 2∙W*

Rearrange as follows:

30 = 2∙W* + W*

So, W* = $10.

And, L* = 40 − W*  So, L^* = 30 (note: labor is measured in thousands of labor hours).

(a)   What would happen if a union imposed a wage floor of $20 per hour?

The wage floor exceeds the equilibrium wage: $20 > $10, which implies that employers will reduce their employment .Plugging the price floor into the demand function yields: L^D = 40 − 20 = 20.  A quantity demand below the equilibrium level.

(b)   Ignoring part (a), what would happen if there was a sudden increase in the demand for labor? More specifically, suppose that at each wage, employers demand 15,000 more worker hours.

Originally, the demand for labor was L^D = 40 − W. We are told that the demand increases by 15, so the new demand is L^D′ = 55 – W.  The new equilibrium wage is then, 45 = 3∙W*

so, W* = $15. The new equilibrium level of employment is L* = 55 − W*  That results in L^* = 40.

Notice that the demand for labor increased by 15 but equilibrium employment increased by only 10. This discrepancy reflects the effects of adjustments in the equilibrium wage, between the two equilibria, which has an offsetting depressing effect on the demand for labor.  Or simply stated, a change in demand is not the same as a change in quantity demanded.

P7:  Most people tip their server after eating out at a restaurant.  Is this behavior rational or irrational?

Yes, this behavior is rational.  On the surface one might argue that economic man is selfish and has no reason to tip, but that ignores other potential issues.    For example the individual, may wish to visit the establishment again and provides a tip to ensure good service in the future.  The individual may provide a tip because they are altruistic and receive utility themselves for helping others.  The individual may rationally tip because of peer pressure.  Not tipping may involve a high cost of comments or stares from the staff.  In each of these cases, the individual is tipping, but is this rational.

P8:  Returning to Figure 1.8, assume that the cake allocation is at point A. However, suppose regrettably that Dave is obese and that his physician has advised him to refrain from eating cake. Equipped with this ammunition, Betsy argues that only point B is efficient. Is she correct?

Dave is perfectly aware of both his own rotundity and his physician’s advice.  Based on this information, he still prefers more cake to less.  Therefore, the set of efficient points lie along the entire line BAD—much to Betsy’s great disappointment. 

Chapter 2

P8:  What is meant by the structural transformation? What are its principal causes?

The structural transformation refers to the decline in agriculture as the dominant sector in the U.S. economy over the last one hundred and thirty years or so.  In 1880 approximately 50% of the labor force was employed in the agricultural sector; today this number is only 3%.  The structural transformation resulted from fundamental technological changes. On one hand, advances in the technology of agriculture (in particular, the introduction of the tractor and the combine harvester) resulted in huge increases in agricultural productivity, leading to a large scale substitution away from labor and toward capital.  On the other hand, technological advances in manufacturing resulted in an enormous increase in scale of that sector, which absorbed the workers released from agriculture.

This has continued as we have moved into the third sector, services.  Services have provided sufficient job opportunities; however, the sector has wide wage inequalities which is another topic of our class.