# Suppose an economy's production possibilities are represented by the function Y = A K L where Y...

## Question:

Suppose an economy's production possibilities are represented by the

function Y = A K L where Y represents total output (i.e GDP),

K is capital,

L is labor, and

A is total factor productivity (TFP) (aka efficiency or productivity parameter).

Moreover, suppose that there is a fixed supply of capital equal to 10 and a fixed supply of labor equal to 2.

TFP is equal to 1.

Set up the problem of a representative (aggregate firm) that maximizes profits taking as given a rental rate for capital (r) and a wage (w).

Calculate the equilibrium rental rate of capital and the equilibrium wage. Suppose that there is a shift in labor supply and wages drop by approximately 50%.

How large is the shift?

What happens to the equilibrium rental rate of capital? Discuss your results.

## Total Output

Total output or Gross Domestic Product is the total worth of all commodities produced within a country in a particular year. The five main components of Gross Domestic Product are Consumption, Investment, Government Expenditure and Net exports. They are evaluated to measure the efficiency of economy.

## Answer and Explanation: 1

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View this answer1. a) Output

{eq}Y = A \cdot K \cdot L {/eq}

{eq}{/eq}Since {eq}A = 1 {/eq}(given)

{eq}Y = K \cdot L {/eq}

We know that,

Cost is,

{eq}\ C = w...

See full answer below.

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Chapter 1 / Lesson 7Learn the definition of a production function in economics, understand the definition of a Cobb-Douglas production function and its formula, and explore some examples of Cobb-Douglas production function.

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