# Chapters 8 and 9 Discussion

Chapters 8 and 9

At a management luncheon, two managers were overheard arguing about the following statement: “A manager should never hire another worker if the new person causes diminishing returns. ” Is this statement correct? If so, why? If not, explain why not. Diminishing return is the stage of production that reflects as the number of new employees increases, the marginal product of an additional employee will eventually be less than the marginal product of the previous employee, and therefore the increase in the input should be stopped. However, even in this stage, the employer can still hire a new person if the value of the marginal product is above the wage rate. If the wage rate declines, the company should hire more people. Additionally, if the value of the marginal product increases due to an increase in product price, then the company can still hire new people.

That is the reason the demand for inputs is downward sloping as shown in

Figure 1.

When the point of diminishing returns is reached, that means your marginal cost goes up. The marginal cost goes up because the capacity goes down. However, more goods can be produced at a higher marginal cost, which means your revenue will increase at the cost of profitability. Therefore, you would not stop hiring until your net revenue peaks and begins to decrease. This is reflected in Figure 2. One solution to the diminishing return problem is to invest in the plant and equipment, thereby increasing capacity.

Figure 2

– Marginal Product of Labor and Diminishing Returns

Chapter 9

The Largo Publishing House uses 400 printers and 200 printing presses to produce books. A printer’s wage rate is $20, and the price of a printing press is $5,000. The last printer added 20 books to total output, while the last press added 1,000 books to total output. Is the publishing house making the optimal input choice? Why or why not? If not, how should the manager of Largo Publishing House adjust input usage? Printers are $20 each and add 20 books per hour. Therefore, the return on printers is $1 per book. Presses are $5000 and add 1000 books.

The press return is $5 per book. In this case, it would appear that it would be more feasible to add more printers and avoid the expensive press cost. This would be the best solution in the short run. The company would have to pay the printer $20 for every hour of work. The press has to be purchased only once, therefore in the long run it is better to purchase the press. The reason is that the press return is $5000 for 1000 books for every hour. After the first five hours, the press is paid off and every book made after that is profit for the life of the machine. The last printer adds 20 books to the total output. Therefore, the marginal productivity of the last printer is 20 books.

The marginal productivity of the last printing press is 1000 books. The optimal choice of input is determined by the marginal productivity of printer=marginal productivity of the press wage rate of printer cost of press 20? 1000 205000 1? 0. 2 Therefore, optimally, it is best to add a printer versus a press. The MorTex Company assembles garments entirely by hand even though a textile machine exists that can assemble garments faster than a human can. Workers cost $50 per day, and each additional laborer can produce 200 more units per day. The installation of the first textile machine on the assembly line will increase output by 1,800 units daily.

Currently, the firm assembles 5,400 units per day. The financial analysis department at MorTex estimates that the price of a textile machine is $600 per day. Can management reduce the cost of assembling 5,400 units per day by purchasing a textile machine and using less labor? Why or why not? Management could not reduce the cost of producing 5,400 units per day by buying a textile machine and employing less labor. This is because the laborers are more efficient than the machine.

The laborers currently produce 5,400 units with each worker producing 200 units. Without a textile machine, this equates to 5,400 units? 200 units per worker. This means that the company must have 27 workers to produce the required output. Therefore, 27 workers? $50 each is a total cost of $1,350. Therefore, to compute each unit cost, divide the total cost ($1350) by the total output (5400). This yields $0. 25 marginal cost to produce each unit. By contrast, the machine costs $600 per day and can produce 1,800 units per day. Therefore, the unit cost for the machine would be the machine cost ($600)? the total output (1800). This means the marginal cost of each unit $0. 33. It would not be a wise decision to replace the workers with textile machines. b. The Textile Workers of America is planning to strike for higher wages.

Management predicts that if the strike is successful, the cost of labor will increase to $100 per day. If the strike is successful, how would this affect the decision in part to purchase a textile machine? Explain. If labor is $100 per day per worker, the total cost of producing 5,400 units with labor is 27 workers x $100 each = $2,700. Marginal cost is $2,700 ? ,400 units = $0. 50. Therefore, if the wages increase to $100 per employee per day, then the marginal cost of $0. 50 per unit is more than $0. 33 per unit with the machine. In this case, management should consider replacing the laborers with the textile machine. The only other consideration then would be the labor cost required to run the machine(s).

Reference

http://www.google.com/search? q=marginal+product+of+labor+graph Thomas, C. & Maurice, S. (2011).

Managerial economics: Foundations of business analysis and strategy (10th ed. ). New York: McGraw-Hill.

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