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Principles of Microeconomics

7th Edition
N. Gregory Mankiw
ISBN: 9781305156050

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BuyFindarrow_forward

Principles of Microeconomics

7th Edition
N. Gregory Mankiw
ISBN: 9781305156050
Textbook Problem

A storm destroys several factories, thereby reducing the stock of capital. What effect does this event have on factor markets?

a. Wages and the rental price of capital both rise.

b. Wages and the rental price of capital both fall.

c. Wages rise and the rental price of capital falls.

d. Wages fall and the rental price of capital rises.

To determine
Theeffect of reducing stock of capital on factor marker.

Explanation

Option (d):

Labors wage is determined by the level of the marginal productivity of labor. Decreasing the stock of capital also reduces the marginal productivity of labor and supply of capital stock. Since the marginal productivity of labor decreases, the wage level decreases. The decreasing supply of capital leads to the shortage of capital that in turn increases the rental price of capital. Thus, the option “d” is correct.

Option (a):

Thewage will increase only when the marginal productivity of labor increases. Themarginal productivity of labor increases when the capital stock increases...

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