Least Cost Hiring
How do you choose the right combination of inputs?
Factor Market Optimization
• All market structures hire a single factor of production where
MRP = MFC
• MRP = MP input X MR output
• MFC = marginal factor cost (wage rate or price of machine)
• When hiring 2 substitute factors of production they must use the
Least Cost Hiring Rule to achieve the correct combination
What Combination?
Machines
Physical Capital
MPK
Workers
Labor
MPL
The Least-Cost Rule
• To hire the optimal combination of 2 resources equate the ratio
of the MP to the price of inputs
Labor
or
Capital
(physical)
Your choice must satisfy the following equation
(Only one combination will work!)
Example:
MPL = 5 units per hour
Wage = $10 hour
MPL/PL = MPK/PK
• If MPL/PL > MPK/PK then
L &
• If MPL/PL < MPK/PK then do opposite
K
5/$10 = .50 units per dollar
Ratio tells you that
you get 0.5 units of
output per $100 of cost
Ratio of MP/Price Input
• MP/Priceinput is the amount of output per $1 dollar cost
– Large ratio is cheap => hire more of that input
– Small ratio is expensive => hire less of that input
MPL/PL = 10
MPk/Pk = 20
Machines
Physical Capital
Workers
Labor
Least Cost Hiring Worksheet
• Optimizing Factors of Production