Beginning on November 6 (the day of the midterm), quiz sections will engage in an economic experiment to create real data that illustrate a variety of concepts in the Theory of the Firm. The scenario for the experiment is described below. In order for the experiment to proceed as smoothly as possible, we urge you to read this document carefully in advance.

Quiz section attendance typically reaches a quarterly low right after the midterm, so we are providing an incentive for you to attend and participate in this data-generating activity. The proportion of your quiz section grade that is allocated for "participation" will be strongly affected by whether your name appears on one of the firm rosters associated with this experiment. Thus, in a way, we will be formally taking attendance during the week after the midterm.

The class will be divided into four groups. Each group will be a small "firm" whose output, q, consists of tri-folded and stapled mailers. As inputs, you use capital (a stapler), labor (people who use the stapler) and materials (paper to be folded plus the staples used in the stapler).

In total, we will collect empirical data that describes the short-run production functions of as many as 44 similar "firms" in this industry (11 sections times 4 firms per section). In one short-run scenario, each firm will have one stapler. Each "production period" (shift) will be 60 seconds long. We will observe and record how many mailers of suitable quality can be produced by these firms when the fixed quantity of capital (one stapler) is combined with increasing amounts of labor and materials (1 worker, 2 workers, 3 workers, 4 workers, etc.)

The concept to be quantified by this exercise is the idea of a short-run total product of labor curve, and the corresponding marginal product of labor curve. We will subsequently combine this information about production technology with information about labor costs to derive an associated short run cost function. If we then employ information about the revenues to be earned per completed mailer, we should be able to derive what would be the profit-maximizing output decision for a typical firm in this industry.

When TA sections meet, the TA will divide the class (arbitrarily) into four roughly equal-sized groups. Since TA sections average about 36 students, each group should have a maximum of about 9 people. For each group, the TA will then designate the following:

1. a "manager," who does no physical labor (with the stapler) him- or herself, but directs the productive activity of the "employees." The manager is free to take suggestions from the production floor about how to organize production, but has the final say in exactly how productive activity will be undertaken.
2. a "quality control officer," whose task is to inspect the output produced by the employees after each production period, rejecting any product that is not up to the firm's high quality standard. The specifications for stapled mailers is that the triple-folding be neat and sufficiently accurate (not crooked), and the the staples at each end of the mailer be centered, parallel to the edge of the paper, not so close to the edge that they will fall out, nor further than 1/4 inch into the middle of the mailer (otherwise the message inside might be torn when recipients open the mailer).
3. a "chief operating officer" who keeps track of the number of workers on the production floor in each production period, how many acceptable-quality mailers get produced, and how many units of product were rejected by the quality control officer. This officer fills in the "official production report" for the firm.
4. a representative from the department of Occupation Health and Safety, who observes the firm's production process and has the authority to halt production if any worker's safety is being jeopardized (we do not want any fingers to get caught in the stapler!)
5. several rank-and-file employees, varying numbers of whom will be called in to work each shift.

Note that the first four people in any team are paid to come to work regardless of how much output is being produced. Also, payments on the loan taken out by the firm in order to buy the stapler must be made each period regardless of whether mailers are being produced or not. These inputs are fixed inputs in the short run. Note that, if necessary, the quality control officer and the chief operating officer can also serve as shop-floor employees. The manager and the OHS representative, however, may NOT run the staplers. They have not been appropriately trained to handle the sophisticated equipment, somebody has to be the leader, and the firm's liability coverage does not allow production activity without a safety officer present.

Conduct of the experiment:

1. Prior to the beginning of operation by any firm (at any scale of production), all members of the firm will meet (in a "retreat") and briefly discuss possible production strategies, both with the current capital stock (one stapler) and if the firm borrowed more money to buy (or otherwise acquire) a second stapler. During this period, within-firm job assignments will also be decided, and the firm roster should be filled out. Allocate a maximum of five minutes to this task.
2. Appoint an official time-keeper for the section. This may be the TA or any one of the 1-3 people who may be the remainder after four groups of equal size have been formed. The only qualifications for this job are a decent watch with a second hand, and good eyesight.
3. The first 60-second shift will use only ONE shop-floor employee (one unit of the short-run variable labor input). Run the shift. When it is done, hand the accumulated product to the quality control officer, who will quickly inspect and separate defective units. The quality control officer will then hand the good and defective output to the chief operating officer, who records the data on (a) number of staplers, (b) number of workers, (c) units of good output and (d) units of defective output. (Note that this information is proprietary to the individual firm. Do not let competing firms discover your trade secrets.) While this is happening, the second shift can start. It is the responsibility of the manager to keep everybody on track so that production delays do not eat into profits. As soon as everybody is in position, each firm should signal the time-keeper that they are ready to start the next shift.
4. The second 60-second shift will use TWO shop-floor employees (two units of variable input). After it has run, its operating conditions and output will be tallied similarly.
5. Continue adding one additional worker per shift until you have all regular shop-floor employees working one shift. (This should be an equal number per firm. For smaller sections, the quality control officer and the chief operating officer can be pressed into service on the shop floor for more intensive shifts).
6. For this last shift, have each firm's chief operating officer report publicly the total non-defective output produced by the firm in its most-productive run.

1. The firms that accomplish the takeovers are the two highest-producing firms (flip a coin to resolve ties). The firms which are taken over are the two lowest- producing firms.
2. The first choice of takeover target goes to the highest-producing firm (flip a coin to reolve ties).
3. The management teams of the takeover target firms (manager, quality control officer, chief operating officer, and OHS representative) are fired (and presumably go to work as freelance consultants). The acquiring firm assumes the payments on the loan for the additional stapler they acquired as part of the assets of the acquired firm and goes into production with this new higher level of capital.
4. The next production period starts again with ONE worker (using two staplers). It runs for 60 seconds, as before. All relevant data are recorded.
5. Then TWO workers are used. Continue recording data.
6. Continue until all available shop-floor employees have been used (or until negative marginal returns set in, if time is growing short).
7. Collect all data sheets and turn in to TA.

If sufficient time remains in this section:

1. TA will tabulate, for each firm, in a separate table for each quantity of capital, the quantity of good output corresponding to each labor input level; if some student has a calculator (or if the TA has brought one to section), average output for each level of labor input can be computed and posted.
2. TA will plot "good" output as a function of quantity of labor employed (usually for 1, 2, 3, 4, and 5 units of labor, possibly more for the merged firms). There should be four observations at each labor level, since there are four firms in a section. Or, if means have been calculated, just display these.
3. Connect the means in this plot.
4. Derive the corresponding marginal productivity of labor corresponding to each input level.
5. Convert the short-run production function at each level of capital into a labor requirements curve for any given level of output.
6. We will later consider a specific wage to be attributed to shop-floor labor (and to the various ranks of management), as well as the size of the payments on the loan to buy the stapler. This will lead to a short-run family of cost curves (if everything goes well). Further assumptions about demand conditions will then lead to profit-maximizing output decisions.
7. Possibly, discuss econometric estimation of the production function (or the marginal product of labor function, etc.)

After we have collected data from all sections, the pooled results will be employed in further analysis. TA's will make notes on how the experiment progressed in each section, so that its operation can be improved in subsequent editions of the course.

1. Initial descriptive statistics, plots and regression analysis of production function.

NOTE: The idea for tri-folded paper as an output was drawn from the recently published micro principles textbook by Arthur O'Sullivan and Steve Sheffrin, entitled Microeconomics: Principles and Tools