A firm's production function is

q = AKL

where A > 0. Assume that (p,w, r) = (1, 1, 1).

Q7a. (5 marks)

Show that diminishing (but positive) marginal products of labor and capitals

imply , > 0, while diminishing returns to scale implies + < 1.

6

Q7b. (5 marks)

By examining the ratio of long-run unconditional capital and labor demand K/L,

explain why an increase in A (as a technological improvement) does not explain why

the firm become more capital intensive, but an increase in does.