Consider a self employed worker who owns a firm that produces output q which sells for a price of p = 1. Output depends on effort, e, so the production function is q = γe, where γ > 0 is a parameter. Effort reduces utility, and the cost of effort is c(e) = 1 2 e2. Note that there is no principal-agent problem here because the worker is the owner of the firm (and therefore has a claim on all profits), in addition to personally incurring the cost of effort. The self employed worker’s utility is a linear function of revenue net of effort costs, U(e) = q− c(e) = γe− 1 2 e2
Consider a self employed worker who owns a firm that produces output q which sells for a price of p = 1. Output depends on effort, e, so the production function is q = γe, where γ > 0 is a parameter. Effort reduces utility, and the cost of effort is c(e) = 1 2 e2. Note that there is no principal-agent problem here because the worker is the owner of the firm (and therefore has a claim on all profits), in addition to personally incurring the cost of effort. The self employed worker’s utility is a linear function of revenue net of effort costs, U(e) = q− c(e) = γe− 1 2 e2
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Consider a self employed worker who owns a firm that produces output q which sells for
a price of p = 1. Output depends on effort, e, so the production function is q = γe, where
γ > 0 is a parameter. Effort reduces utility, and the cost of effort is c(e) = 1
2 e2. Note that
there is no principal-agent problem here because the worker is the owner of the firm (and
therefore has a claim on all profits), in addition to personally incurring the cost of effort. The
self employed worker’s utility is a linear function of revenue net of effort costs,
U(e) = q− c(e)
= γe− 1
2 e2
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