Managerial Economics & Business Strategy

Chapter 4The Theory of Individual

Behavior

Labor-Leisure Choices

• What do I have to do to get you to give up some of your leisure?

Compensate you• Overtime

• Extra credit 24 hours in a day to split up between work and leisure Total Earnings (E) = Fixed payment + wage (24 – leisure hours)

16 24

16 hours of leisure 8 hours of work

Leisure (per day)

Income (per day)

80

240

Which is better: overtime or higher wages?

• For consumers? Higher wages

• For firms? Overtime

• People tend to work more hours with overtime

• Leisure is a NORMAL good – Wages increase consume more leisure

Managerial Economics & Business Strategy

Chapter 5The Production Process and Costs

Production Analysis• Production Function

Q = F(K,L) The maximum amount of output that can be produced

with K units of capital and L units of labor.

• Short-Run vs. Long-Run Decisions SR some fixed and variable inputs LR everything is variable

• Fixed vs. Variable Inputs Fixed cannot be changed right now

• Sometimes denoted as K* Variable can change at anytime

Cobb-Douglas Production Function

• Q = F(K,L) = K.5 L.5

K is fixed at 16 units. Short run production function:

Q = (16).5 L.5 = 4 L.5

Production when 100 units of labor are used?

Q = 4 (100).5 = 4(10) = 40 units

Important terms

• Total Product Maximum level of output that can be produced given inputs. Do we always get the maximum??

• Average Product Q/L or Q/K Good for looking overtime or comparisons of firms

• Marginal Product Additional (or change in output) due to a change in an input Increases and then decreases Why??

Marginal Productivity Measures

• Marginal Product of Labor: MPL = Q/L Output produced by the last worker. Slope of the short-run production function (with respect

to labor).• How do you find the slope of a function???

– First Derivative

• Marginal Product of Capital: MPK = Q/K Output produced by the last unit of capital. Slope of the production function (with respect to capital).

What are they???32L6K L)Q(K,

2218 LKMPL 312KLMPK

Average Productivity Measures

• Average Product of Labor Q = F(K,L) = K.5 L.5

• If the inputs are K = 12 and L = 16, what is the average product of labor • APL = [(12) 0.5(16)0.5]/16 = 0.866.

• Average Product of Capital Q = F(K,L) = K.5 L.5

If the inputs are K = 12 and L = 16, then what is the average product of capital

APK = [(12)0.5(16)0.5]/12 = 1.154.

Q

L

Q=F(K,L)

IncreasingMarginalReturns

DiminishingMarginalReturns

NegativeMarginalReturns

MP

AP

Increasing, Diminishing and Negative Marginal Returns

Important points

• MPL is at its maximum at the change in concavity of the TP curve

• MPL intersects the APL at its maximum

• MPL is zero where TP reaches its maximum