LR Problem Set #4, Q: 316

[moshei24]

Hi,

Why is the answer C and not B?

Why does paying the lowest wages equal having the lowest operating expenses? There are other things involved in operating expense besides wages.That's why I thought B was right.

And why does paying family members low wages itself reduce family's prosperity? That keeps the money inside the family - it's just a redistribution of the wages. If they pay someone outside the family, it automatically lowers their prosperity because they're allowing some of their money leave the family. That's why I thought this answer was wrong. Can you please explain this question to me?

Thanks,
Moshe

[Adam Tyson]

The problem with answer B here is that the stimulus doesn't go so far as to say that lowest wages equals lowest operating expenses. All the author claimed was that lower wages lead to lower operating expenses. Answer B isn't a flaw of the argument - it's more like a misstatement of the argument.

For answer choice C, try imagining this scenario: your family decides to start a business. In order to minimize expenses, you and your siblings, parents, etc. pay yourselves a salary of $1 a year. All the rest of the money stays in the business - it's not yours, you can't spend it, it sits in the business' bank account untouched. How are you and your family making out? Not so good - you can't pay the rent, buy groceries, put gas in your car, because you only make $1 a year. Your business is doing great, sure, but you are not enjoying that prosperity because you aren't taking those profits out of the business and using them.

If you presume, as you did, that the extra profits stay "in the family", you must be assuming that you and your family can somehow enjoy the use of that money. But how can you use and enjoy it if you don't pay it to yourself? If it's still in the business, it's not yours! Only when you take it out of the business and give yourself use of it (in other words, until you pay yourself and your family) do you get to enjoy that prosperity.

Make sense?

Adam