In the short run, consider 2 countries: Home and Foreign (denoted with *). Each
ID: 1225461 • Letter: I
Question
In the short run, consider 2 countries: Home and Foreign (denoted with *). Each country sells 2 goods: Apples and 3D printers, used to make ornamental apples from plastic. Assume the amount of capital in Home is 10 and the amount of capital in Foreign is 20. Also, let the price of apples be 2 in Home (P_A = 2) and 1 in Foreign (P_A^* = 1). The price of printers is 1 in both countries, while the amount of workers is 100 in Home and 200 in Foreign. Finally, let MPL_A = 5L_A^-1/2, MPL_A^* = 75(L_A^*)^-1/3, MPL_p = 7(K)(L_P)^-1/2, MPL_P^* = 5 (L_P^*)^-1/3. Growing tensions of rival political parties results in 50 workers leaving Foreign for Home. Additionally, home invests 5 units of capital in Foreign firms to provide more 3D printers to be used in war. Calculate the effect of these changes on the equilibrium L_A, L_p,w, L_A^*, L_p^*, w*. Be sure to illustrate the changes with a graph with wages on the y-axis and labor on the x-axis.
Explanation / Answer
in deriving the demand for labor it is important to remember that the basic productivity of labor is subject to change with the price of capital (a complement) and with the level of technology in the economy.
if the wage falls, the investment of capital may change (for example) and then the productivity of a unit of labor decreases (capital per effective worker decreases see Solow Growth Model). So the shift along the old MRP curve will not reflect the full adjustment in labor demand, it will in fact be less elastic because of the decreased incentive to invest in complimentary capital,this will effect the labour leaving the firm.