Heggood, Inc., a perfectly competitive firm, produces hats using capital and labor purchased in competitive factor markets. If the demand for hats increases, Heggood, Inc. will

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The scenario describes a perfectly competitive firm that takes input and output prices as given in competitive markets. When demand for hats increases, the firm wants to increase production to meet the higher demand, which requires more inputs.

Option 1: decrease the price of hats. In a perfectly competitive market, the firm is a price taker and cannot set or reduce the market price of hats; it simply takes the going price. Therefore this statement is incorrect.

Option 2: decrease its demand for labor. To raise output in response to higher demand, the firm would typically need more inputs, not fewer; thus decreasing labor demand is inconsistent with expanding production. This is incorrect.

Option 3: decrease the quantity of labor demanded. Similar to option 2, increasing production to meet higher demand would require at least the same or more labor, not less; this option misstates the incentive to hire more resources. This is incorrect.

Option 4: increase its demand for capital. This matches the logic that higher output requires more inputs, including capital, given competitive factor markets. The firm expands input use to raise production, so demand for capital rises. This is the correct implication.

Option 5: increase the rental price of capital. In competitive factor markets, the rental (price) of capital is determined by supply and demand in the market, not by the individual firm’s decision. While market wages or rentals could rise due to overall increased demand, the statement attributes the action to the firm’s decision rather than to market conditions, and it does not specify the firm’s action correctly. This is not the best description of what the firm will do in response to higher product demand.

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Heggood, Inc., a perfectly competitive firm, produces hats using capital and labor purchased in competitive factor markets. If the demand for hats increases, Heggood, Inc. will

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