Question

1. The profit maximizing condition (in real terms) for the firm when determining the optimal the
optimal level of labor to hire is given by
a. MPN=w
b. MPN>w
c. MPN<w
d. None of the above

2. Which of the following would cause the labor supply to fall (i.e. cause Ns curve to shift inwards)?
a. Large number of immigrants enter the country
b. Improvements in technology raise the effectiveness of capital and labor
c. A fall in the real wage
d. A rise in expected future real wage

5. True/False: A temporary increase in the real wage is likely to decrease the quantity of labor
supplied because for a temporary wage change the IE likely dominates the SE.

Answer 1

1. The profit maximizing condition (in real terms) for the firm when determining the optimal the
optimal level of labor to hire is given by MPN>w. The firm wants to hire an additional unit of labor only till the point when marginal revenue product of labor is greater than the nominal wage.

Therefore the correct option is b.

2. The labor supply would fall (i.e. Ns curve will shift inwards) when a rise in future real wage is expected. This is because with an increase in real wage labor would prefer having more leisure time as they can earn the amount they were earning earlier by working for lesser time. The supply of labor would decrease as the demand for leisure would increase and hence the N_s curve will shift inwards.

Therefore the correct option is d.

5. A temporary increase in the real wage is likely to decrease the quantity of labor supplied because for a temporary wage change the IE likely dominates the SE. This statement is FALSE. With a temporary supply in the real wage, the quantity of labor supplied increases. In this case the substitution effect dominates the income effect. In case of long term or permanent increase in the real wage income effect dominates the substitution effect thereby resulting in the decrease in labor supply.

But in case of temporary increase in labor supply, substitution effect dominates income effect and the labor supply will increase.