Your firm produces clay pots entirely by hand even though a pottery machine exis
ID: 2505917 • Letter: Y
Question
Your firm produces clay pots entirely by hand even though a pottery machine exists that can make clay pots faster than a human. Workers cost $80 per day and each additional worker can produce 20 more pots per day (i.e., marginal product is constant and equal to 20). Installation of the first pottery machine would increase output by 300 pots per day. Currently your firm produces 1,800 pots per day.
a. Your financial analysis department estimates that the price of a pottery machine is $2,000 per day. Can you reduce the cost of producing 1,800 pots per day by adding a pottery machine to your production process and reducing the amount of labor? Explain why or why not.
b. If a labor union negotiates higher wages so that labor costs rise to $160 per day, does this change your answer to part a? Explain.
c. Suppose your firm wants to expand output to 2,500 pots per day and input prices are $100 and $2,000 per day for labor and capital, respectively. Is it efficient to hire more labor or more capital? Explain.
Explanation / Answer
(a)
current cost = (1800 pots)/(20 pots per worker) * ($80 per worker) = $7200
adding a pottery machine, pots made by workers reduce by 300
cost = cost of machine + cost of workers
= 2000 + (1800 - 300)/(20) * (80)
= 2000 + 6000
= 8000
Since costs increase, I wont add the machine
(b)
if new wages are 160
then current costs = (1800 pots)/(20 pots per worker) * ($160 per worker) = $14400
adding a pottery machine, pots made by workers reduce by 300
cost = cost of machine + cost of workers
= 2000 + (1800 - 300)/(20) * (160)
= 2000 + 12000
= 14000
Since costs decrease, I will add the machine
(c)
cost per pot through machine = $2000/300 pots = $6.67 per machine pot
cost per pot through labor = $100/20 pots = $5 per labor pot
Since pot produced through labor is cheaper, it is efficient to hire more labor.
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