Long free-response question

The only employer in town

Units 5 and 6
10 points
About 25 minutes

You can use a calculator on this question, just like on exam day.

A long question with several lettered parts built around one scenario, often a firm in a particular market structure, and it can pull in other units such as a labor market or a payoff matrix. You identify outcomes, explain them, do a calculation, and describe a correctly labeled graph that shows the situation and how a change affects it. On the exam: Question 1 of 3 in Section II (60 minutes including a 10-minute reading period; 33.35% of the exam score); 10 points, half of the section score. About 25 minutes suggested. Four-function calculator allowed.

The question and its sources

Pine Hollow Lumber is the only employer of mill workers in a small town, so it is a monopsony in the labor market. To hire more workers, it must pay a higher wage to all of its workers. The table shows the wage Pine Hollow must pay to hire each number of workers and the marginal revenue product (MRP) of each worker.

Table 1. Labor supply and MRP at Pine Hollow Lumber

Number of workers	Wage needed to hire this many workers (per hour)	MRP of the last worker (per hour)
1	$8	$33
2	$10	$29
3	$12	$25
4	$14	$21
5	$16	$17
6	$18	$13

Source: Hypothetical data

Suggested time: 25 minutes

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Part (a)

1 point

Calculate the marginal factor cost (MFC) of hiring the fourth worker. Show your work.

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Part (b)

1 point

Explain why the marginal factor cost of a worker is greater than the wage for Pine Hollow.

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Part (c)

2 points

Identify (i) the number of workers Pine Hollow will hire to maximize profit and (ii) the wage it will pay.

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Part (d)

2 points

Describe a correctly labeled graph of the labor market for Pine Hollow. Show (i) the labor supply, MFC, and MRP curves; and (ii) the profit-maximizing quantity of workers and wage, labeled Lm and Wm.

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Part (e)

1 point

If this labor market were perfectly competitive instead, identify the number of workers that would be hired and the wage.

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Part (f)

2 points

Suppose the government sets a minimum wage of $16 per hour. (i) Identify the number of workers Pine Hollow will hire. (ii) Explain why.

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Part (g)

1 point

Explain why the monopsony outcome you identified in part (c) is inefficient.

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