Economics: Facts of Factors of Production

Difficulty: 1/3 (See below)
Review: 4/5 (It's because 80% of the chapter should be review, haha, get it?)

This chapter focuses on factors of production: land, labor, and capital; the three inputs used to produce good and services. The demand for these inputs is known as derived demand, since it is derived from its decision to supply the good these inputs provide in another market.

Assuming the firm is competitive and profit maximizing, the market for the firm's good has a normal sloping supply and demand curve as well. Since it is competitive, it is a price taker for its good and its wages.

As learned before, the production function shows output with respect to input. It has diminishing marginal product due to coordination costs. Marginal product is the increase in amount of output with one more unit of input, downward sloping. Value of marginal product is marginal product multiplied by price, also downward sloping.

Logically, such a firm will hire workers until value of marginal product of a worker is equal to to wages.

Some things that shift the demand curve for labor (value of marginal product slope) is the output price, since price * marginal product = value of marginal product. Technological change usually makes demand shift right, but mechanized labor might reduce demand. Supply of other factors could also affect demand for labor.

Now, we discuss supply of labor. There is obviously a trade-off between work and labor, where opportunity cost of leisure is what you could've earned. We assume here that higher wages means working more for simplicity (supply curve slopes upward). Shifts in supply happen when there is a change in tastes, alternative opportunities, immigration, etc.

To connect these both, we must realize that a change in supply or demand for labor changes the equilibrium wage and the value of marginal product the same amount because these values must be equal.

Since the value of marginal product = wages, more productive workers earn more money and thus higher wages means better productivity and better standards of living.

Capital = the stock of equipment and structures used for production (accumulation of goods made in the past now being used the produce more goods). For example, ladders to climb trees, apple transport trucks, storage buildings, and the apple trees themselves.

There's rental price and purchase price too, you should know the difference. The equilibrium price of land or for capital also is equivalent to the value of marginal product those factors bring to the purchasing firm.