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Input (Factor of Production) Markets

Input (Factor of Production) Markets. Introduction. Factor Markets Factors of Production: Land, Labour, Capital, Entrepreneurship Focus on Labour Review (to some extent). Derived Demand.

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Input (Factor of Production) Markets

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  1. Input (Factor of Production) Markets

  2. Introduction • Factor Markets • Factors of Production: Land, Labour, Capital, Entrepreneurship • Focus on Labour • Review (to some extent)

  3. Derived Demand • The demand for a factor (say,labour) is a derived demand for the product that the factor produces.

  4. Individual Supply of Labour (Review) Recall the income and substitution effects of a wage increase (I.e. labour-leisure trade-off) Substitution Effect: w Price of Leisure Demand for leisureSupply of Labour  Income Effect:w   Real Income  Demand for leisure() if leisure normal (inferior) Supply of Labour  ()

  5. Market Supply of Labour (Review) Wage Rate Labour Supply Curve Labour (hours)

  6. Labour Demand (Review)

  7. Labour Demand (Review) Maximise output subject to fixed amount of costs Capital a Labour

  8. Labour Demand (Review) Maximise output subject to fixed amount of costs Capital a to c is the overall effect of a change (fall) in the wage rate c a Labour

  9. Labour Demand (Review) Maximise output subject to fixed amount of costs Capital The substitution effect is a to b (b to c is the output effect) c a b Labour

  10. Labour Demand (Review) Minimise costs subject to output constraint wL+rK=C Y=f(K,L)

  11. Labour Demand (Review) The substitution effect is a to b Capital Min costs s.t. f(K,L) = output (fixed level) dl/dw<0 & dk/dw>0 a b Labour

  12. Labour Demand Min costs s.t. F(K,L) = output (fixed level) Capital Conditional Factor Demand a b Labour

  13. Labour Demand: Agenda • Profit maximising labour demand curves – what determines the basic shape? • Restrictions: Productand factor markets are assumed to be perfectly competitive.

  14. Labour Demand: Agenda Short Run (capital fixed) • Firm’s demand curve for labour? • Market demand curve for labour? Long Run (capital variable) • Firm’s demand curve for labour? • Market demand curve for labour?

  15. Short Run: Firm’s Demand for Labour • Capital is fixed, Labour is variable. • As labour is increased the extra output resulting from the additional unit of labour declines, i.e. MPL declines. • The additional revenue from employing an extra unti of labour is referred to as the Value of the Marginal Product (VMPL) = P.MPL.

  16. Short Run: Firm’s Demand for Labour MPL Diminishing Marginal Returns MPL L

  17. Short Run: Firm’s Demand for Labour MPL Diminishing Marginal Returns MPL L € VMPL =P.MPL VMPL L

  18. Short Run: Firm’s Demand for Labour MPL Diminishing Marginal Returns MPL L € VMPL =P.MPL VMPL Perfect competition in product market assumed, i.e. firm cannot change P. L

  19. Short Run: Firm’s Demand for Labour € W = VMPL = P.MPL W VMPL = DL Demand for labour by the firm L The wage is the marginal cost of an extra unit of labour and VMPL is the marginal benefit of an extra unit of labour.

  20. Short Run: Market Demand for Labour As wage  • Ld  for each firm • Output  • Price (P)  • VMPL shifts inwards • Market demand for labour curve is less elastic than the firm demand for labour curve Draw this yourself

  21. Long Run: Firm’s Demand for Labour As wage  • L and usually K  • If K  then MPL  • L again (i.e. an extra “kick”) • The long run demand for labour curve is more elastic than the short run demand for labour curve Draw this yourself

  22. Long Run: Market Demand for Labour As wage  • Ld  for each firm • Output  • Price (P)  • VMPL shifts inwards • Long run market demand for labour curve is less elastic than the short run market demand for labour curve Draw this yourself

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