Intermediate Microeconomics and Its Application 12th Edition by Walter Nicholson,Christopher Snyder

Exercise 23

Every Household Is a Firm
Turning inputs into outputs is something we all do every day without thinking about it. When you drive somewhere, you are combining labor (your time) with capital (the car) to produce economic output (a trip). Of course, the output from this activity is not traded in organized markets; but there is not very much difference between providing "taxi services" to yourself or selling them to someone else. In both cases, you are performing the economic role that economists assign to firms. In fact, "home production" constitutes a surprisingly large segment of the overall economy. Looking at people as "firms" can yield some interesting insights.
The Amount of Home Production
Economists have tried to estimate the amount of production that people do for themselves. By including such items as child care, home maintenance, commuting, physical maintenance (for example, exercise), and cooking, they arrive at quite substantial magnitudes-perhaps more than half of traditionally measured GDP. To produce this large amount of output, people employ significant amounts of inputs. Timeuse studies suggest that the time people spend in home production is only slightly less than time spent working (about 30 percent of total time in both cases). Also, people's investment in home-related capital (such as houses, cars, and appliances) is probably larger than business firms' investment in buildings and equipment.
Production of Housing Services
Some of the more straightforward things produced at home are what might be called "housing services." People combine the capital invested in their homes with some purchased inputs (electricity, natural gas) and with their own time (cleaning the gutters) to produce living accommodations. In this respect, people are both producers of housing services and consumers of those same services; and this is precisely how housing is treated in U.S. GDP accounts. In 2012, for example, people spent $1:3 trillion in (implicitly) renting houses from themselves. They also spent $460 billion on furnishings, household equipment, and routine household maintenance even if we do not assign any value to the time they spent in household chores. Whether people change their production of housing services over the business cycle (do they fix the roof when they are laid off, for example) is an important question in macroeconomics because the decline in output during recessions may not be as large as it appears in the official statistics.
Production of Health
The production function concept is also used in thinking about health issues. People combine inputs of purchased medical care (such as medicines or physicians' services) together with their own time to "produce" health. An important implication of this approach is that people may to some extent find it possible to substitute their own actions for purchased medical care while remaining equally healthy. Whether current medical insurance practices give them adequate incentives to do that is widely debated. The fact that people may know more than their physicians do about their own health and how to produce it also raises a number of complex questions about the doctor-patient relationship (as we shall see in Chapter 15).
Production of Children
A somewhat more far-fetched application of the home production concept is to view families as producers of children. One of the most important observations about this "output" is that it is not homogeneous-children have both "quantity" and "quality" dimensions, and families will choose which combination of these to produce. Clearly, significant amounts of inputs (especially parental time) are devoted to this process-by some estimates the input costs associated with children are second only to housing for typical families. From an economic point of view, one of the more interesting issues involved in producing children concerns the fact that such investments are irreversible (unlike, say, housing, where one can always opt for a smaller house). This may cause some people to view this production as quite risky, as any parent of a surly teen can attest.
If people produce goods such as housing services and health for their own consumption, how should we define the "prices" of these goods in the model of utility maximization used in prior chapters?