The PDQ Corporation is reevaluating its input combination. At the current employ

Question

The PDQ Corporation is reevaluating its input combination. At the current employment levels the marginal productivities of labor is 5 units of output per hour. The labor wage is $6.00 per hour. The marginal productivity of type Z equipment is 10 units of output per hour. The price of type Z equipment is $10 per hour. Assuming changes in the employment levels won’t affect the input prices, what adjustment would you suggest?

a. Increase the employment of labor and decrease the employment of equipment.

b. Decrease the employment of labor and increase the employment of equipment.

c. Increase the employment of both labor and equipment

Explanation / Answer

PDQ Corporation will maximize profit when it employ that quantity of two inputs at which following condition is fulfilled -

MPL/PL = MPZ/PZ

In given case,

Marginal productivity of labor (MPL) = 5

Wage rate (PL) = 6

So,

MPL/PL = 5/6 = 0.83

Marginal productivity of equipment z (MPZ) = 10

Price of equipment z (PZ) = 10

So,

MPZ/PZ = 10/10 = 1

Since,

MPZ/PZ > MPL/PL , PDQ Corporation is not employing the profit-maximizing quantity of inputs.

It must decrease the quantity of labor and increase the quantity of equipment Z as it will enable it to achieve the profit-maximizing quantity of inputs.

Hence, the correct answer is the option (b).

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