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Labor Supply

Labor Supply. The willingness and ability to work specific amounts of time at alternative wage rates in a given time period, ceteris paribus . LO-1. Income versus Leisure. The opportunity cost of working is the amount of leisure time that must be given up in the process:

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Labor Supply

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  1. Labor Supply • The willingness and ability to work specific amounts of time at alternative wage rates in a given time period, ceteris paribus. LO-1

  2. Income versus Leisure • The opportunity cost of working is the amount of leisure time that must be given up in the process: • Opportunity cost is the most desired goods or services that are forgone in order to obtain something else. LO-1

  3. Income versus Leisure • As the opportunity cost of work increases, we require higher rates of pay. • The marginal utility of income declines as more is earned. • The upward slope of an individual labor supply curve reflects two things: • Increasing opportunity cost of labor. • Decreasing marginal utility of income. LO-1

  4. Market Supply • Market supply of labor–the total quantity of labor that workers are willing and able to supply at alternative wage rates in a given time period, ceteris paribus. • As labor-market entrants increase, the quantity of labor supplied goes up. LO-1

  5. Labor Demand • Demand for labor–the quantities of labor employers are willing and able to hire at alternative wage rates in a given time period, ceteris paribus. LO-2

  6. Derived Demand • Derived Demand–The demand for labor and other factors of production results (is derived) from the demand for the final goods and services produced by these factors. LO-2

  7. Derived Demand • The quantity of resources purchased by a business depends on the firm’s expected sales and output. • The demand for labor depends on the demand for the product that the labor is producing. LO-2

  8. What does your major pay?

  9. The Wage Rate • The quantity of labor demanded depends on its price—the wage rate. • The farmer paying $30 an hour to labor may not hire as much labor as she would at $10 per hour. LO-3

  10. Figure 8.2

  11. Marginal Physical Product (MPP) • We measure a worker’s value to the firm by his or her marginal physical product (MPP). LO-3

  12. Marginal Physical Product (MPP) change in total output = MPP change in quantity of labor • Marginal physical product–the change in total output associated with one additional unit of an input: LO-3

  13. Marginal Physical Product (MPP) • In most situations, the marginal physical product declines as more workers are hired. LO-3

  14. change in total revenue = MPP change in quantity of labor Marginal Revenue Product (MRP) • Marginal revenue product–the change in total revenue associated with one additional unit of input: LO-3

  15. Marginal Revenue Product (MRP) • Marginal revenue product sets an upper limit to the wage rate an employer will pay. LO-3

  16. The Law of Diminishing Returns • The marginal physical product of labor eventually declines (or diminishes) as the quantity of labor employed increases. • Marginal physical product declines because more people must share limited facilities. LO-3

  17. The Law of Diminishing Returns • The Law of Diminishing Returns–The marginal physical product of a variable factor declines as more of it is employed with a given quantity of other (fixed) inputs. LO-3

  18. Figure 8.3

  19. Diminishing Marginal Revenue Product (MRP) • As MPP diminishes, so does MRP. MRP = MPP x p • If p is assumed to be constant, then MRP diminishes along with MPP. LO-3

  20. Table 8.1

  21. The Hiring Decision • The number of workers that will be hired is determined by the demand for and the supply of labor. LO-3

  22. The Firm’s Demand for Labor • A firm will continue to hire until the MRP has declined to the level of the market wage rate. • The Marginal Revenue Product curve is the labor demand curve. LO-3

  23. The Firm’s Demand for Labor • Each (identical) worker is worth no more than the MRP of the last worker hired, and all workers are paid the same wage rate. LO-3

  24. Figure 8.4

  25. Market Equilibrium • The market demand for labor depends on: • The number of employers. • The Marginal Revenue Product of labor in each firm and the industry. • The market supply of labor depends on: • The number of workers. • Each workers’ willingness to work at alternative wage rates. LO-3

  26. Equilibrium Wage • The intersection of the market supply and demand curves establishes the equilibrium wage. • It is the only wage where the quantity of labor supplied equals the quantity of labor demanded. LO-3

  27. Equilibrium Employment • The only sustainable level of employment in a market given the prevailing supply and demand conditions. LO-3

  28. Changing Market Outcomes • Changing market conditions alter wages and employment levels. • Changes in labor productivity • Changes in the price of the good produced by labor • Legal minimum wages • Labor unions LO-5

  29. Changes in Productivity • If labor productivity (MPP) rises, wages can increase without sacrificing jobs. • Increased productivity implies that workers can get higher wages without sacrificing jobs or more employment without lowering wages. LO-5

  30. Changes in Price • Marginal revenue product reflects the interaction of productivity and product prices. • MRP depends on the market price of the product being produced. • MRP shifts to the right if the market price of a product increases. LO-5

  31. Legal Minimum Wages • Minimum wages are mandated by Congress. • Effects of a minimum wage: • Reduces the quantity of labor demanded. • Increases the quantity of labor supplied. • Creates a market surplus. • Some workers end up better off while others end up worse off (a tradeoff). LO-4

  32. Figure 8.7

  33. Labor Unions • Workers may take collective action to get higher wages. • They form a labor union and bargain collectively with employers. • A union must exclude some workers from the market to get and maintain an above-equilibrium wage. LO-5

  34. Labor Unions • Unions decrease wages in non-union industries. • Excluded workers increase non-union labor supply. LO-5

  35. Capping CEO Pay • Critics of CEO (Chief Executive Officer) pay levels want to reduce their pay and revise the process used to set their pay levels. • The Obama Administration created a Pay Czar position to govern salaries and benefits given to CEOs of firms bailed out during the 2008-09 economic problems. LO-5

  36. Unmeasured MRP • Measuring the MRP of a CEO is difficult because a CEO’s contributions are not easy to quantify. • CEO salaries are higher because they reflect their opportunity wage: • Opportunity wage is the highest wage an individual would earn in his or her best alternative job. LO-5

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