Question

A manager hires labor and rents capital equipment in a very competitive market. Currently the wage rate is $12 per hour and capital is rented at $8 per hour. If the marginal product of labor is 45 units of output per hour and the marginal product of capital is 65 units of output per hour, should the firm increase, decrease, or leave unchanged the amount of capital used in its production process?

Answer 1

The firm should decrease the amount of capital used.

Solution:

The wage rate is $12 per hour and capital is rented at $8 per hour.

The marginal product of labour is 45 units of output per hour and the marginal product of capital is 65 units of output per hour.

A manager hires labour and rents capital equipment in a very competitive

market.

The ratio of marginal product of labour and wage rate

= $\frac{45}{12}$

= 3.75

The ratio of marginal product of capital and rent

= $\frac{65}{8}$

= 8.125

If the cost ratio is higher, it means that the boss must minimize the volume of money involved in the manufacturing process.