Boss Fuzzhead is an engineer by training and says “I know that we can substitute

Question

Boss Fuzzhead is an engineer by training and says “I know that we can substitute capital for unskilled labor in the production process that our company uses and projections are that capital costs are declining, so those unskilled folks better just be happy they have jobs and not give me any trouble.” Sally Ecogeek, the company economist, tells him that he won’t substitute if the cost of capital goes down because she has estimated that the cross-price elasticity of unskilled labor employment with respect to changes in the price of capital is negative. How do you explain this apparent contradiction to Boss and Sally?

Explanation / Answer

Cross-price elasticity of unskilled labor employment with respect to changes in the price of capital is negative.

That means that responsiveness of the unskilled labor employment to change in price of capital is negative. It means that if the cost of capital goes down it does not affect the unkilled labor employment.

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