1.(23) Consider a country in autarky with only two inputs, capital (K) and labor
ID: 1116843 • Letter: 1
Question
1.(23) Consider a country in autarky with only two inputs, capital (K) and labor (L), that produces only two goods X and (3) a What is the condition for efficiency in production (allocation of inputs)? (17) b. Explain and show why competitive markets (i.e, all firms face the same price for capital and labor) generate (that is, result in) efficiency in production (i.e., lie on the contract curve, why do they give the condition you descibed in part a?). (6) c. What are the two other conditions necessary for this economy to be efficient?Explanation / Answer
a) The condition for effeciency in production is that: MPK/r = MPL/w.
b) Competitive markets promote production effeciency because under perfect competition the firms are price taking and can't influence price. This imply that distortions in the market that could happpen as and when price deviate from being equal to the marginal cost is eliminated. This in essence imply that the marginal revenue id the same as teh demand function and the equilibrium is such that each factor is paid as per the value of the marginal product eliminating the venues for losses.
c) Other conditions are:
i. perfect mobility of the factors of production
ii. perfect information.
iii minimal transaction costs.
iv. absence of externalities.
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