Econ 448

Exercise 11/21/12 Names:

1. A farm household in rural Mexico consists of five adult brothers and no other
dependents. Total annual income depends on the number of brothers working on the
farm through the year and is given by the following schedule:

Number of 1 2 3 4 5
Brothers
Total farm 1000 1800 2400 2800 3000
output ($)

Each brother, at the beginning of the year, can decide to migrate to Mexico City, where
formal sector jobs pay $1300 annually, but the formal sector employment rate is 40%.
Wages in the informal sector are $350. A person who migrates to the city cannot come back
to work on the farm that year. Assume that the brothers are risk neutral, there is no
difference in the cost of living between the city and the country, and there are no migration
costs. The brothers make their migration decision sequentially (i.e. Brother #5 decides first,
brother #4 decides second, etc.)

Questions on the back…

a. Suppose that the brothers who work on the farm share farm income equally among
themselves, but there are no remittances to or from any family member who goes to the
city. Showing your work, find the number of brothers who will migrate to the city.

E[wu]=0.4*$1300+0.6*$350 = $730

Therefore, every brother who earns less than $730 on the farm will migrate to the city.
When there are 5 brothers, APL=$600, so the fifth brother will migrate
When there are 4 brothers, APL=$700, so the fourth brother will migrate
When there are 3 brothers, APL=$800, so no more brothers will migrate
2 brothers total will migrate.

b. Now suppose the brothers share everything. Their total family income, either from the
farm or the city, is pooled and shared equally. Find how many brothers will migrate to
the city.

In this case, we need to find what combination of brothers in the city and brothers on the
farm will maximize total expected family income. The easiest way to do this is to look at
the marginal product of each brother and compare it to the expected urban wage.

MPL of brother 5 = $200, so he will migrate

MPL of brother 4 = $400, so he will migrate
MPL of brother 3 =$600, so he will migrate
MPL of brother 2 =$800, so he (and brother 1) will stay
3 brothers total will migrate.

Another way to solve this problem would be to calculate total family income for every
possible combination of brothers on the farm and brothers in the city. You should find
that 3 brothers in the city and 2 on the farm maximizes expected family income at $3990.