BADM 7200 CHAPTER 3 National Income: Where It
Comes from and Where It Goes Study Guide Problems and
Solutions
1. Use the neoclassical theory of distribution to predict the impact on the real wage and the real
rental price of capital of each of the following events:
a. A wave of immigration increases the labor force.
b. An earthquake destroys some of the capital stock.
c. A technological advance improves the production function.
d. High inflation doubles the prices of all factors and outputs in the economy.
1. a. According to the neoclassical theory of distribution, the real wage equals the marginal product of
labor. Because of diminishing returns to labor, an increase in the labor force causes the marginal
product of labor to fall. Hence, the real wage falls.
Given a Cobb–Douglas production function, the increase in the labor force will increase the
marginal product of capital and will increase the real rental price of capital. With more workers,
the capital will be used more intensively and will be more productive.
b. The real rental price equals the marginal product of capital. If an earthquake destroys some of
the capital stock (yet miraculously does not kill anyone and reduce the labor force), the marginal
product of capital rises and, hence, the real rental price rises.
Given a Cobb–Douglas production function, the decrease in the capital stock will decrease the
marginal product of labor and will decrease the real wage. With less capital, each worker becomes
less productive.
c. If a technological advance improves the production function, this is likely to increase the
marginal products of both capital and labor. Hence, the real wage and the real rental price both
increase.
d. High inflation that doubles the nominal wage and the price level will have no impact on the real
wage. Similarly, high inflation that doubles the nominal rental price of capital and the price
, level
Comes from and Where It Goes Study Guide Problems and
Solutions
1. Use the neoclassical theory of distribution to predict the impact on the real wage and the real
rental price of capital of each of the following events:
a. A wave of immigration increases the labor force.
b. An earthquake destroys some of the capital stock.
c. A technological advance improves the production function.
d. High inflation doubles the prices of all factors and outputs in the economy.
1. a. According to the neoclassical theory of distribution, the real wage equals the marginal product of
labor. Because of diminishing returns to labor, an increase in the labor force causes the marginal
product of labor to fall. Hence, the real wage falls.
Given a Cobb–Douglas production function, the increase in the labor force will increase the
marginal product of capital and will increase the real rental price of capital. With more workers,
the capital will be used more intensively and will be more productive.
b. The real rental price equals the marginal product of capital. If an earthquake destroys some of
the capital stock (yet miraculously does not kill anyone and reduce the labor force), the marginal
product of capital rises and, hence, the real rental price rises.
Given a Cobb–Douglas production function, the decrease in the capital stock will decrease the
marginal product of labor and will decrease the real wage. With less capital, each worker becomes
less productive.
c. If a technological advance improves the production function, this is likely to increase the
marginal products of both capital and labor. Hence, the real wage and the real rental price both
increase.
d. High inflation that doubles the nominal wage and the price level will have no impact on the real
wage. Similarly, high inflation that doubles the nominal rental price of capital and the price
, level
