Emma Peterson is a worker for ABC Inc. She has an effort cost function of C = 2e^2 and a monthly reservation wage of $3,500. Her wage function is W = 3,500 + 0.4Q. If the incentive coefficient is equal to 0.4 then Q = 400e. Q is Emma’s output. Assume that the incentive coefficient increases from 0.4 to 0.5 and Emma’s base salary decreases from $3,500 to $3,000.
a. What will happen to her level of effort?
b. How will this change XYZ Company’s profits?