Dr. Eugene Steadman, Jr.

1
Marginal Revenue Product and Optimal Employment
Levels An Illustration of Student Involvement
in the Classroom

• Dr. Eugene Steadman, Jr.
• Professor of Business Administration
• Graduate Professional Studies Program
• Averett University, Danville, VA
• 7th Annual Economics Teaching Conference
• New Orleans, Louisiana
• October 27, 2011

2
Major Areas Covered

• Law of Diminishing (Marginal) Returns (MP)
• Specialization/Division of Work Tasks
• Marginal Revenue (MR)
• Marginal Revenue Product (MP X MR)
• Marginal Costs (MC, or Marginal Labor Costs)
• Optimal Employment Level(s)
• Minimum Wage Increase Impact on Employment
  Level
• Illegal Immigration Impact on Employment Level
• Efficiency Wagesand Minimum Wage Debate

3

A Suggestion to Achieve Better Student Learning
Outcomes Involve Them in the Decision Process

• Put them to work in a hypothetical business
  making holiday wreaths
• Involves 10 distinct work tasks, from cutting on
  a basic wire/metal bending machine, to painting
  and drying the support structure, to mounting all
  the ornaments, bows, pine cones, etc., to quality
  control, to packing and shipping

4
Work Stations for Holiday Wreath Manufacture
Maintaining Machine And Making Support Structure
Arranging Materials
Painting and Drying Support Structure
Attaching Material For Mounting Decorations
Green boughs, Pine Cones Nuts Added
Add Flowers And Red Bows
Spray Reflective Paint/Flecks on Selected Decorati
ons
Quality Control
Packing
Ship Final Wreath to Customer
5
Law of Diminishing Returns

Increasing Marginal Returns Up to Inflection
Point Increasing Slope of Line (Pts A to B to C
to D) Decreasing Marginal Returns Past
Inflection Point- Decreasing but Positive Line
Slope (Pts D to E to F to G to H) Negative
Marginal Returns Past Peak Point (Hto I, etc.,
line becomes negative slope)
6
Daily Wreath Production as Function of Variable
Labor Input Factor

• Number of Number of Daily Wreath
  Marginal Product
• Students Machines Output
  (MP)
• 0 1
  0 0
• 1/Renee 1
  6 6
• 2/Emily 1
  14 8
• 3/David 1
  24 10
• 4/Zack 1
  32 8
• 5/Malika 1
  37 5
• 6/Karl 1
  39 2
• 7/Ron 1
  38 -1
• 8/Betty 1
  35 -3
• Points 1) students estimate daily wreath output
  levels, as fellow students are employedInstructor
  
• acts as facilitator, providing
  insights as needed
• 2) specialization of labor/division
  of tasksis Emily more productive
• than Renee, and David more
  productive than Emily? Why not hire 3
• Davids, and get rid of Renee and
  Emily?
• 3) illustrates area of increasing
  returns (Renee, Emily and David), area of

7
Holiday Wreath Material Costs
Holiday Wreath Material Costs

• MP Order Quantities Av. Cost/Wreath()
  Semi-Variable Material Additional Material
  Costs
• (Note 1) (Note 2)
  Costs _at_ Student MP () Per Student
  Hired ()
• 0 0 0
  0
  0
• 6 1-10 3.00
  18.00 (x 6)
  18.00
• 8 11-20 2.75
  38.50 (x 14)
  20.50
• 10 21-30 2.50
  60.00 (x 24)
  21.50
• 8 31-40 2.25
  72.00 (x32)
  12.00
• 5 Same Same
  83.25 (x37) 11.25
• 2 Same Same
  87.25 (x39)
  4.00
• -1 Same Same
  85.50 (x38)
  -1.75
• -3 Same Same
  78.75 (x35)
  -6.75

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Marginal Revenue and Marginal Revenue Product
Marginal Revenue and Marginal Revenue Product

• Number of Marginal Marginal
  Daily Marginal Revenue
  Add.Material Costs Adjusted MRP, Less
  Total Profit/
• Students Product (MP) Revenue (MR)
  Product MP X MR MRP () Per Student Hired
  () Material Costs () Revenue ()
  
• 0 0 wreaths
  25/wreath 0 X 25 0
  0
  0 0
• 1/Renee 6
  25 6 X 25 150
  18.00
  132 132.00
• 2/Emily 8
  25 8 X 25 200
  20.50
  179.50 311.50
• 3/David 10
  25 10 X 25 250
  21.50
  228.50 540.00
• 4/Zack 8
  25 8 X 25 200
  12.00
  188.00 728.00
• 5/Malika 5
  25 5 X 25 125
  11.25
  113.75 841.75
• 6/Karl 2
  25 2 X 25 50
  4.00
  46.00 887.75
• 7/Ron -1
  25 -1 X 25 -25
  -1.75
  -23.25 864.50
• 8/Betty -3
  25 -3 X 25 -75
  -6.75
  -68.25 796.25
• Price of holiday wreaths held constant at 25
  each. Each additional wreath creates 25 of
  revenue/income to the company. You could reduce
  prices as a f (quantity) and illustrate
  principle.
• Even though marginal revenue product is
  decreasing in the area of diminishing returns,
  please note that the total revenue continues to
  increase up to the point where negative returns
  begin
• On the basis of just maximizing total revenue,
  how many students would you utilize? Answer is
  6, where the total revenue is a maximum
  (assumption is free or volunteer no-cost
  labor).
• Profit is now 887.75 per day, or 213,060 per
  240 days per year, for a worthy cause. Any more
• or less student workers will lower my
  profit.

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How Much Should We Pay Each Student to Work, Per
Hour?

• Adding the major variable cost, labor, assume we
  pay each student the current federal minimum wage
  of7.25/hour, but no benefits, for 8 hrs/day
• How many students should we now hire?
• Use the basic rule go to the point where your
  marginal revenue product your marginal cost.
  Then, youve squeezed every penny of profit
  that you can get. Each student up to that point
  will have earned their keep (covered their
  employment costs, from the sale of their marginal
  output produced in concert with the other
  production factors)
• Will it be the same level of 6 as shown on the
  previous chart?

10
Marginal Revenue Product Compared to Marginal Cost
Marginal Revenue Product Compared to Marginal
Cost

• Student Daily
• Number Wreaths MP MR MRP Adj. MRP MC
  Total Revenue Total Labor Cost Total Profit
  Added Profit?
• 0 0 0 25 0
  0 0 0
  0 0 None
• 1/Renee 6 6 25 150
  132.00 58 132.00 58
  74 74.00
• 2/Emily 14 8 25 200
  179.50 58 311.50 116
  195.50 121.50
• 3/David 24 10 25 250
  228.50 58 540.00 174
  366.00 170.50
• 4/Zack 32 8 25 200
  188.00 58 728.00 232
  496.00 130.00
• 5/Malika 37 5 25 125
  113.75 58 841.75 290
  551.75 55.75
• 6/Karl 39 2 25 50
  46.00 58 887.75 348
  539.25 -12.50
• 7/Ron 38 -1 25 -25
  -23.25 58 864.50 406
  458.50 -80.75
• 8/Betty 35 -3 25 -75
  -68.25 58 796.25 464
  332.25 -126.25
• Question How many students do you hire? Do we
  stay with the 6 workers
• previously? Answer Look at
  the additions to your profitto maximize profit,
• you go to the point where the
  lowest additional profit occurs, i.e., hire just
  5
• students now. The prior sixth
  student will now not be able to cover their wage
• cost and will not be offered a
  paying job! (This is a 16.7 reduction in
  workers).
• My profits are now at 551.75 per day, or
  132,420 per 240 days per year. Any more or less

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Students Protest They Now Want Benefits!
Students Protest They Now Want Benefits!

• Students now demand comprehensive health care
  benefits, and a 401-K savings plancosts add up
  to another 40 per student per day (about a 40
  overhead factor with todays workforce)
• That means my student cost per day is now 58
  labor 40 overhead 98 per day, per student.
  
• How does that change my employment levels, if at
  all?

12
Marginal Revenue Product Compared to New Marginal
Cost
Marginal Revenue Product Compared to New Marginal
Costs

• Student Adj. Marginal New
  Marginal Total Labor Added Profit?
• Number Revenue Product () Cost ()
  Cost () ()
• 0 0
  0 0
  No
• 1/Renee 132.00
  98 98 34
• 2/Emily 179.50
  98 196 81.50
• 3/David 228.50
  98 294 130.50
• 4/Zack 188.00
  98 392 90.00
• 5/Malika 113.75
  98 490 15.75
• 6/Karl 46.00
  98 588 -52.00
• 7/Ron -23.25
  98 686 -121.50
• 8/Betty -68.25
  98 784 -166.25
• Question How many students do we hire now? Do
  we stay with the 5 students we
• hired the last time? Yes, at 5
  students we are still adding to our profits, but
• at a lower amount per student
  due to the increased overhead costs.
• My profits are now at 551.75 - 40 X 5 351.75
  per day, or 84,420 per 240 days per year. Any
  more or less student workers will decrease my
  profit.

13
Minimum Wage Increase Occurs
What Happens If You Increase the Minimum Wage?

• Assume Government Imposes a Higher Minimum Wage
  of 9.25/Hour (74/day) Benefits (40/day)
• Assuming all else remains equal (e.g., profit
  margin), what happens to the level of employment?
• Number of Adj.
• Students MRP() MC() Addition
  to Profits () Outcome on Students
• 0 0 0
  0 None
• 1/Renee 132 114
  18.00 Renee gets a nice
  raise
• 2/Emily 179.50 114
  65.50 Emily gets a nice
  raise
• 3/David 228.50 114
  114.50 David gets a nice
  raise
• 4/Zack 188 114
  74.00 Zack gets a nice
  raise
• 5/Malika 113.75 114
  -0.25 Malika loses her
  job!
• 6/Karl 46 114
  -98.00 No chance of
  ever hiring Karl (6),
• 
  
  Ron (7), or Betty (8)
• Renee, Emily, David, and Zack all get nice pay
  raises, but our prior co-worker, Malika, loses
  her job.
• This represents a 20 reduction in my workforce!
• With 4 employees, my profits are now at 272 per
  day, or 65,280 per 240 days per year. Any more
  or less student workers

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Effect on Employment Levels from Illegal
Immigration

• What if we can lower wage costs by hiring illegal
  immigrants at just 5 per hour (40/day) and no
  benefits, but with the same ability to assemble
  holiday wreaths (i.e., same productivity), how
  many (lower-wage) workers could you hire?
• Worker/Student Adj.MRP() MC() Addition to
  Profit() Worker Impact
• 0 0
  0 0 No
  workers, no revenue, no variable costs
• 1 132 40
  92 Hire Don
  Jose
• 2 179.50 40
  139.50 Hire Oxana
  Voicu
• 3 228.50 40
  188.50 Hire Don Juan
• 4 188 40
  148 Hire Chow
  Teng
• 5 113.75 40
  73.75 Hire Dona
  Marilyn
• 6 46
  40 6 Hire
  Patty OBrien
• 7 -23.25 40
  -63.25 Do not hire
  Roberto Giorio
• 8 -68.25 40
  -108.25 Do not hire
  Dona Tracey
• From the previous level of employment (4), I am
  able to increase my workforce by 50 (add two new
  workers)! (The other, prior workers all leave
  and look for better jobs?)
• For jobs requiring little to no training, this
  labor displacement can occur in many occupations
• At 6 employees, my profits now are at 647.75 per
  day, or 155,460 per 240 days/year. Any more
• or less immigrant workers will lower my
  profit.

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Efficiency Wages Questions onMinimum Wage
Increases Jobs
Efficiency Wages and Questions on Whether
Increases in Minimum Wage Levels Cause
Unemployment

• Efficiency Wages are increases in wages,
  usually designed to keep specific high value or
  critical employees from leavingso, in this
  instance, you have a special case of increased
  wages with no job losses, ceteris paribus. But,
  from personal experience, this can be explained
  in economic terms i.e., the wage increase is
  paid for by more output/results, or higher
  quality results that bring more value or profit
  to the company
• As noted by Professors Baumol Blinder in their
  12th Edition of Economics, Principles Policy
  (2012, Cengage), on page 497 is a policy debate
  portal on whether the minimum wage causes
  unemployment. This debate is based on work
  done in the 1990s by economists David Card and
  Alan Krueger and covered in their book, Myth and
  Measurement The New Economics of the Minimum
  Wage, Princeton University Press, 1995. Their
  research is based on increases in the minimum
  wage in New Jersey, Texas, and California
  fast-food restaurants (1992, 1991, and 1988,
  respectively), all of which did not seem to
  reduce employment. Their research was the basis
  for increases in the federal minimum wage under
  President Clinton in 1996, and to some extent for
  the current minimum wage of 7.25/hour.
• For the first point above, efficiency wages are
  generally geared to specialized expertise, and
  not to the unskilled or lower skilled labor upon
  which the minimum wage argument is usually based
  (as in this presentation). For the second point,
  the assumption of ceteris paribus, for me, is
  violated. When wages increase and no job losses
  occur as a result, either profit margins are
  reduced or wage costs are added to the
  fast-food menu prices or the higher wages draw
  higher-skilled workers into the restaurant,
  thereby causing an increase in customer revenues
  to cover the costs or as stated previously, if
  the same number of employees are kept, perhaps
  other benefit coverages are reduced. But, no
  matter, you cannot defy the economic fact that
  there is no free lunch. And, for the labor
  demand curve, the law of diminishing marginal
  utility is intact?

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SUMMARY

• Involving students and making it personal
  serves to reinforce several key economic concepts
• Relationship of marginal productivity, marginal
  revenue, marginal revenue product, and marginal
  cost interrelationships, in a business setting
  with student employees, seems to work well in
  achieving student learning outcomes. Test scores
  in this area show very good results!
• Eyes are opened from the impact on employment
  levels from (unwarranted) increases in the
  minimum wage and from illegal immigration
• Easier to see, for a profit-driven company, why
  hiring/laying off actions, such as those shown in
  the holiday wreath business, can and do occur
• 
  QUESTIONS?
• Contact
  eugene.steadman_at_averett.edu