American Bed Company (ABC) uses L and K to produce their beds. It is known that L and K are perfect complements in production 1:1 ratio (i.e. each machine or K, MUST be operated by exactly ONE worker or L). The price of L and L are $10 and $90, respectively. ABC has an operation budget (total cost) of $1.1 million.

a). Graphically illustrate ABC’s optimal choice. Clearly show all the important points/aspects (many of which actual numerical solution is possible). Show computations.

b). Suppose under the threat of a Labor Union strike, ABC is forced to increase it’s pay for L to $20. Graphically show the effect. Be sure to distinguish between the out and substitution effects.

c). If ABC wants to maintain its original production level, how much operation budget do they need to increase by?

d). Mathematically derive ABC’s demand for L function. At the new price levels (PL = $20, PK = $90, and TC = $1.1 million), compute the elasticity of demand (for L) and the cross-price elasticity of demand.