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A firm produces output (Q) using inputs of labor (L) and capital (K), whose prices are...

A firm produces output (Q) using inputs of labor (L) and capital (K), whose prices are w and r, respectively. Production is subject to increasing marginal cost. Both inputs are normal. Now suppose w rises. Discuss each of the statements below, explaining whether it is correct or incorrect and why:

a) "The increase in w will increase the firm's demand for K as well as its demand for L."

b) "If the elasticity of capital-labor substitution (σ) is zero for this firm's production processes, then the increase in w will not affect the firm's demand for either K or L."

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Answer #1

A)As W increases demand for capital increases if same output has to be produced and definitely demand for labor decreases because of both income and substitution effect.Thus given statement is false.

b)True. It will only increase the cost of production.

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