Asked by Mirian Marquez on Mar 10, 2024
Verified
If the price of labor falls relative to the price of capital, and as a result the quantity of capital employed decreases, then it can be concluded that
A) the substitution effect is greater than the output effect.
B) the output effect is greater than the substitution effect.
C) the income effect is greater than the output effect.
D) labor cannot be easily substituted for capital.
Substitution Effect
A change in consumption patterns due to a change in the relative prices of goods, leading consumers to replace more expensive items with less expensive ones.
Price of Labor
The wage rate or compensation given to workers for their labor services, typically influenced by the supply and demand for labor in the market.
Output Effect
The output effect describes how changes in price can affect the quantity of goods or services produced by firms, often related to the concepts of supply and demand.
- Examine the impact of variations in capital and labor costs on hiring choices.
Verified Answer
CM
Callie MeinhartMar 10, 2024
Final Answer :
A
Explanation :
When the price of labor falls relative to the price of capital, firms are more likely to substitute labor for capital because labor becomes cheaper. If the quantity of capital employed decreases as a result, it indicates that the substitution effect (the change in the quantity of capital and labor used due to the relative price change) dominates any output effect (the change in production levels due to the change in overall cost of production). This means firms are substituting labor for capital rather than increasing overall production enough to use more of both inputs.
Learning Objectives
- Examine the impact of variations in capital and labor costs on hiring choices.