Question

Each entry-level software programmer in Palo Alto, California, has either high or low ability. All potential employers value a high-ability worker at $12,000 per month and a low-ability worker at $6,000. The supply of high ability workers is Qh = 0.1(W - 7,000) and the supply of low-ability workers is Ql= 0.1(W - 2,000), where W is the monthly wage.

a) If workers’ abilities are observable to employers, how many workers of each type will employers hire?

b) If workers’ abilities are not observed by employers, how many workers of each type will employers hire?

c) Identify the deadweight loss due to asymmetric information?

Answer 1

12000=0.1(W-7000) - for high ability worker equilibrium rate

12000=0.1W-700

0.1W= 12700

W=12700/0.1=127000

for low-ability worker, 6000=0.1(W-2000)

6000=0.1W-200

0.1W=6200

W=62000

(a) Number of high ability worker hired should be Qh=0.1(W-7000)=0.1(127000-7000)=0.1* 120000=12000

Numbr of low ability worker hired should be Ql=0.1(W-2000)=0.1(62000-2000)=0.1* 60000=6000

(b) If workers ability is not observed then average of 6000 and 12000 to be taken that is 6000.

(c) The deadweight loss due to asymmetric information is 6000.