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Chapter 22 “Market for Labor and Other Inputs”

ECONOMICS: EXPLORE & APPLY by Ayers and Collinge. Chapter 22 “Market for Labor and Other Inputs”. Learning Objectives. State why the demand for labor is derived demand. Use labor demand and supply curves to show how an equilibrium market wage rate is determined.

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Chapter 22 “Market for Labor and Other Inputs”

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  1. ECONOMICS: EXPLORE & APPLYby Ayers and Collinge Chapter 22“Market for Labor and Other Inputs”

  2. Learning Objectives • State why the demand for labor is derived demand. • Use labor demand and supply curves to show how an equilibrium market wage rate is determined. • Discuss the characteristics of a purely competitive labor market and the wage- taking firm. • Ascertain the profit maximizing employment of labor for a wage taking firm.

  3. Learning Objectives • Describe labor markets in which market power over the wage rate is present. • Relate the similarities between the employment of labor and the employment of other resources. • Explain why the employment of labor has become increasingly global in scope.

  4. 22.1 THE MARKET DEMAND FOR LABOR • Unlike the product market, in which firms are sellers and households are buyers, in the labor market, individuals sell their labor services (suppliers) to firms (demanders). • The market price of labor services is the wage rate, the amount the employee is paid per hour.

  5. The Market Demand for LaborA Derived Demand • Labor demand slopes downward, meaning that…. • Higher wage rates decrease the quantity of labor demanded. • Whereas, lower wage rates increase the quantity of labor demanded.

  6. The lower the wage, rate, the larger the quantity of labor demanded. Labor Demand Wage Rate ($) $9 $7 Market Demand Quantity of Labor (hours per day) 3,000 4,000

  7. Variation in the Demand for Labor Economist often study the labor demands In three distinct labor market segments. Occupation: occupational labor demands are distinct for dissimilar because labor occupations require specific human capital. Geography: labor demand varies geographically because of different economic conditions in towns and regions. Industry: various industries compete for the same pool of workers.

  8. Derived Demand Labor demand is a derived demand, which means that the demand for labor exists only because there is a demand for labor’s output.

  9. The higher the wage, rate, the larger the quantity of labor supplied. Labor Demand Wage Rate ($) Market Supply $9 $7 Quantity of Labor (hours per day) 4,000 5,000

  10. Market for Labor • Workers exchange their services to the labor market in exchange for the wages and salaries that they can earn. • The market supply curve of labor shows the quantity of labor supplied at various wage rates. • The positive slope of the market supply of labor tells us that higher wage rates attract a greater quantity of labor supplied. • Labor supply can vary by occupation, area, and industry.

  11. At $9, there would be a 2,000-hour surplus of labor. Labor market equilibrium Market for Labor Wage Rate ($) Market Supply • • $9 • $7 Market Demand Quantity of Labor (hours per day) 3,000 4,000 5,000

  12. 22.2THE EQUILIBRIUM WAGE RATE • A purely competitive labor market exist when the demand for labor and the supply of labor establish an equilibrium wage rate and quantity of labor. • The characteristics of a purely competitive labor market are…. • Many buyers and sellers of labor services • Services of labor are homogeneous • Market is free of barriers to entry and exit

  13. A Purely Competitive Labor Market • In a purely competitive employers are wage takers. • They can employ as much or as little labor as they desire, at the market wage rate. • No one employer can influence the wage rate, so as wage takers, they have no market power over wages. • For a wage taking firm, the wage rate is supply curve of labor to the firm.

  14. The horizontal supply curve of labor to an employer indicates the employer is a wage taker in a purely competitive labor market. The firm’s demand for labor will determine the quantity of labor it hires at that wage. Competitive Labor Markets Labor Market Firm Dollars Dollars Market Supply Labor Supply to Firm Market Wage The interaction of labor demand and labor supply sets the market wage. Market Demand Firm’s Demand Total market labor Labor (thousands) Labor to Firm Labor (single units)

  15. A Firm’s Employment of Labor • The value to the firm of any worker’s labor, pat is a revenue resulting the from that worker’s marginal product. • The revenue from the output an additional worker adds to the firm’s total output is termed the marginal revenue product of labor. • Marginal revenue product = Change in total revenue/Change in labor Or Marginal revenue x Marginal product.

  16. A Firm’s Employment of Labor Marginal revenue product = (change in total revenue ÷ change in labor ) = (marginal product x marginal revenue) 25 20 15 10 5 0 Marginal revenue product Marginal revenue product is downward sloping for a price-taking firm due to the decrease in the marginal product of labor. 0 1 2 3 4 5 6

  17. Marginal Revenue ProductA Price Taker Marginal revenue product slopes downward for a price maker for TWO reasons. #1 the marginal product of labor decreases as the quantity of labor is increased. $ #2 price must be decreased in order to sell the additional output that is produced when more labor is employed. The decrease in price, which results in less marginal revenue, also contributes to the decrease in marginal revenue product. 60 50 40 30 20 10 0 -10 -20 -30 -40 Marginal revenue product 0 1 2 3 4 5 6 Quantity of Labor

  18. Hiring Labor Marginal cost of labor: The additional cost of employing one more unit of labor. Marginal cost of labor = Change in total cost/Change in quantity of labor The market wage rate equals the marginal cost of labor for a wage taker. Profit-maximizing firms will hire to the point where (Hiring Rule): MCL = MRPL

  19. The quantity of labor employed by a profit-maximizing firm is the amount for which marginal revenue product = marginal cost of labor =supply of labor to the firm = firm’s demand for firm Marginal Revenue Product and the Demand for Labor Dollars Marginal Cost of Labor • 16 (= market wage) Marginal Revenue Product 3 Quantity of Labor

  20. The greater the ability of the firm to set price in its output market, the steeper will be its marginal revenue product curve. A price taker will employ more labor than a price maker, other things equal. Both firms are wage takers, as indicated by the horizontal supply curve of labor. Employment of Labor and the Output Market Marginal Revenue Product for price maker Dollars Marginal Cost of Labor • • 16 (= market wage) Marginal Revenue Product for price taker 2 3 Quantity of Labor

  21. 22.3MARKET POWER IN THE LABOR MARKET Monopsony - only one employer of labor Monopoly - only one seller of labor, a labor union Bilateral monopoly - only one employer and only one seller of labor

  22. A Monopsony Firm • The monopsonist makes its hiring decisions in the following two steps. • It employs the amount of labor for which the marginal cost of labor equals the marginal revenue product. • It pays the lowest possible wage rate for that labor.

  23. Monopsony Firm and Upward- Sloping Supply of Labor Curve Marginal Cost of Labor Dollars Supply of Labor 10 Step 1 9 8 Step 2 Marginal Revenue Product 3 4 Labor

  24. Monopolies in the output market possess market power because they can raise prices above the level indicated by the intersection of supply and demand. Labor unions are like monopolies in that they are able to command a higher price for their output by…. Reducing the supply of labor. Eliminating competition for jobs among workers. Monopolizing the supply of labor services. Monopoly – A Sole Supplier of Labor Services

  25. Bilateral Monopoly • A bilateral monopoly occurs when a monopsony buyer of labor’s services must obtain those services from a monopoly seller, such as a labor union. • Under a bilateral monopoly, the wage rate depends on bargaining power… • Depending upon whether the employer or representative of the employee bargains more effectively, the wage result can be above or below equilibrium.

  26. 22.4THE EMPLOYMENT OF OTHER INPUTS • The marginal revenue product can be calculated for any input, as can its marginal cost. • The rule for the profit-maximizing amount of labor applies to other inputs: • Employ an input up to the point where its marginal revenue equals its marginal cost.

  27. A firm employs capital to the point where the marginal revenue product from capital equals the marginal cost of capital. The Marginal Revenue Product of Capital The marginal revenue product of capital is computed in the same way as marginal revenue product of labor. But in this case, the quantity of capital varies and the other inputs are held constant. $ Marginal product revenue 12 10 8 6 4 2 0 Marginal cost of capital • 0 1 2 3 4 5 6 Quantity of capital

  28. 22.5 EXPLORE & APPLYInternationalizing the Work Force • A portion of U.S. imports are made by foreign firms employing foreign workers, but some imports are made by U.S. based multinational firms. • Workforce diversity is the norm in many countries. • Some U.S. employers hire foreign born workers because they claim that they will do the jobs that American workers will not do. • Self employed entrepreneurs who are foreign born add add another dimension to the Internalization of the work force.

  29. Internationalizing the Work Force U.S. EMPLOYMENT-BASED IMMIGRATION YEAR NUMBER OF IMMIGRANTS 1990 58,192 1991 59,525 1992 116,198 1993 147,012 1994 123,291 1995 85,336 1996 117,499 1997 90,607 1998 77,517 1999 56,817 2000 107,024

  30. derived demand purely competitive labor market marginal revenue product of labor marginal cost of labor monopsony monopoly bilateral monopoly Terms along the Way

  31. Test Yourself • A labor market demand curve is • downward sloping like the demand curve for goods and services. • upward sloping. • horizontal. • vertical.

  32. Test Yourself 2. Which defines the marginal revenue product of labor? • Change in total revenue/change in output. • Change in total revenue/change in labor. • Change in marginal revenue/change in the wage rate. • Change in output/change in input.

  33. Test Yourself 3. A marginal revenue product curve shows • a firm’s labor market supply. • a firm’s labor demand. • the market supply. • the marginal cost of labor.

  34. Test Yourself 4. The marginal cost of labor equals • the change in total cost/the change in output. • change in total cost/change in labor. • change in total cost/change in the wage rate. • change in output/change in labor.

  35. Test Yourself 5. The marginal cost of labor for a wage-taking firm ________ as it hires more labor. • increases. • decreases. • remains constant. • first increases, then decreases.

  36. Test Yourself 6. In a purely competitive labor market the market wage is determined by • the demand for labor. • the supply of labor • both the demand and supply of labor. • neither the demand nor supply of labor.

  37. The End! Next Chapter 23 “Earnings and Income Distribution"

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