Output is produced with capital and labor.If the price of capital goes up,
A) the price of output will fall.
B) output will be increased.
C) the firm will use more labor per unit of output produced.
D) None of the above will result when the price of capital goes up.

Question

Quizplus · Accepted Answer

If the price of capital goes up, the firm is likely to substitute labor for capital, so it will use more labor per unit of output produced. This is known as the substitution effect. Output may increase or decrease depending on the magnitude of the substitution effect and the elasticity of the production function with respect to labor and capital. The price of output will also depend on the changes in the costs of production, so option A cannot be determined without more information. Option D is also incorrect as there will be a substitution effect.

Output Is Produced with Capital and Labor