Transcript Wage Determination

Wage Determination
Equilibrium Wage Rate
Equilibrium Wage Rate
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Demand curve for labour in an industry is the
revenue product curve of labour
Downward sloping – more labour will be
demanded the lower the real wage rate
Supply curve for labour to an industry is
upward sloping
More labour will be supplied if the real wage
rates increase
Demand curve shifts to right if:
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Productivity improves:
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Changing technology
More flexible working practices
Rise in the selling price of the product
(increases value of output of each worker)
Price of capital increases, leading to a
substitution of labour for capital
Supply curve shifts to the right
if:
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Increase in the number of workers in the
population as a whole due to:
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Changing demographic trends
Government alters tax & benefit levels increasing
incentives to work
Wages or conditions of work deteriorate in
other industries making conditions relatively
more attractive in this industry
Perfect Labour Market
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All workers would be paid the same wage
rate because the following is assumed …
Perfect Labour Market
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Labour is homogeneous (all workers are
identical, for instance in age, skill & gender)
There is perfect knowledge in the labour
market
Perfect mobility of labour
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Workers can move at no cost between jobs in the
same industry
No costs to firms in hiring & firing workers
Perfect Labour Market 2
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All workers & employers are price takers
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No trade unions
No monopsonist employers
No barriers which prevent wages rising &
falling to accommodate changes in the
demand for & supply of labour
Firms aim to maximise profit & minimise
costs of production
Workers aim to maximise their wages
BUT
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Labour is not homogeneous
Workers do not necessarily seek to maximise
wages
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Market forces lead to equality of net benefits, not
equality of wage rates
Labour is not perfectly mobile
Absence of perfect knowledge Imperfections
in market prevent wage rates rising or falling
in response to market pressures
Perfectly Competitive Labour
Market
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Large number of small firms hiring a large
number of individual workers
For the individual firm:
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Demand curve of labour is downward sloping
Supply curve of labour is perfectly elastic &
therefore horizontal (firm can hire any number of
workers at the existing industry wage rate)
How many workers should this
type of firm employ?
Firm will hire workers:
Up to the point where:
Marginal cost of labour = marginal revenue product
of labour
Imperfectly Competitive
Labour Markets
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Either the firm is a dominant or monopoly
buyer of labour or
The firm is faced by a monopoly supplier of
labour, which is most likely to be a trade
union
Monopsonist
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Sole buyer of labour = a monopsonist
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E.g. State employs over 90% of teachers in the UK
Can exploit market power & drive down wage levels
Marginal cost of employing an extra unit of labour is
higher than the average cost or wage
Firm raises wage rates to attract extra labour into
the industry
Higher wage rate must be paid not just to that unit
but all the other workers in the industry
Monopsony in the Labour
Market
Real
Wage
Rate
MC
S
D=MRP
Employment
Monopsonist
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Economic theory suggests that, compared to
a perfectly competitive factor market, a
monopsonist:
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Drives down wages
Reduces employment levels
This is similar to the perfect
competition/monopoly analysis in a goods
market – a monopolist:
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Reduces output
Raises prices
Transfer Earnings
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The minimum payment required to keep a
factor of production in its present use
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Decision to use a factor of production for one
particular job rather than another carries an
opportunity cost
Economic Rent
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A payment received by a factor of production
over and above what would be needed to
keep it in its present use
Wage
Rate
Supply
A
W*
Economic
Rent
B
Transfer
Earnings
Demand
Quantity of
labour
O
L*
Balance between transfer
earnings & economic rent
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Elasticity of supply of labour is critical
Perfectly Elastic Labour
Supply
Limitless supply of labour at W
No economic rent to be gained
Wage
Rate
All earnings are transfer earnings
W
Supply
Demand
O
L
Quantity of
Labour
Perfectly inelastic labour
supply
Fixed amount of labour supplied
to the market
Wage
Rate
Supply
A
W
Whatever the wage rate,
amount of labour remains the
same
No minimum payment need to
keep labour in present use
Entire earnings = economic rent
Demand
O
L
Quantity
of Labour
In other words …
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The more elastic supply is, the higher the
proportion of total earnings that is made up of
economic rent
BUT remember: the position of the demand
curve when interacting with supply
determines the equilibrium wage rate
It is the relatively strong demand relative to
limited supply that leads to a relatively high
equilibrium wage in the market
Markets with time lags
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Wages act as a signal for allocating labour
resources
Wage increases to attract new workers
If training period is lengthy > shortage of
workers in short run
Existing workers enjoy artificially high salary
Represents extra economic rent whilst new
workers being trained
Temporary economic rent = quasi-rent
Marginal Productivity Theory
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Why are top footballers paid such high wages
and nurses and firefighters are not?