Transcript Lecture 26

Labor Market
Equilibrium
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18
EQUILIBRIUM IN THE LABOR
MARKET
• The wage adjusts to balance the supply and
demand for labor.
• The wage equals the value of the marginal
product of labor.
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Figure 4 Equilibrium in a Labor Market
Wage
(price of
labor)
Supply
Equilibrium
wage, W
Demand
0
Equilibrium
employment,L
Quantity of
Labor
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EQUILIBRIUM IN THE LABOR
MARKET
• Labor supply and labor demand determine the
equilibrium wage.
• Shifts in the supply or demand curve for labor
cause the equilibrium wage to change.
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Figure 5 A Shift in Labor Supply
Wage
(price of
labor)
1. An increase in
labor supply . . .
Supply,S
S
W
W
2. . . . reduces
the wage . . .
Demand
0
L
Quantity of
Labor
3. . . . and raises employment.
L
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Shifts in Labor Supply
• An increase in the supply of labor :
•
•
•
•
•
•
Results in a surplus of labor.
Puts downward pressure on wages.
Makes it profitable for firms to hire more workers.
Results in diminishing marginal product.
Lowers the value of the marginal product.
Gives a new equilibrium.
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Figure 6 A Shift in Labor Demand
Wage
(price of
labor)
Supply
W
1. An increase in
labor demand . . .
W
2. . . . increases
the wage . . .
D
Demand, D
0
L
Quantity of
Labor
3. . . . and increases employment.
L
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Shifts in Labor Demand
• An increase in the demand for labor :
•
•
•
•
Makes it profitable for firms to hire more workers.
Puts upward pressure on wages.
Raises the value of the marginal product.
Gives a new equilibrium.
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What is the Effect ofWhy
a Minimum
Wage?wage
is minimum
likely to reduce
employment?
Wage
(price of
labor)
Supply
Wmin
Equilibrium
wage, W
How MUCH … depends
on the elasticity of
demand for Demand
labor. Why?
0
Lmin
Equilibrium
employment,L
Quantity of
Labor
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Who Pays for Health Insurance?
Who PAYS?!
Wage
(price of
labor)
Worth $2
Supply
Why?
Equilibrium
wage, W
Benefits
Costs $2
Demand
Wages
0
Equilibrium
employment,L
Quantity of
Labor
Copyright©2003 Southwestern/Thomson Learning
What do unions do?
Wage
(price of
labor)
If workers are more skilled,
they have higher MPs.
Supply
W*
Equilibrium
wage, W
Demand
0
Equilibrium
employment,L
Quantity of
Labor
Copyright©2003 Southwestern/Thomson Learning
What do unions do?
Wage
(price of
labor)
If workers are no more skilled,
Increased W  unemployment
Supply
W*
What happens
To total wages,
W*L*?
A> It depends
on the elasticity
of demand
Equilibrium
wage, W
Demand
0
L*
Equilibrium
employment,L
Quantity of
Labor
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What happens during epidemics?
Wage
(price of
labor)
Labor
Suppl
y
FALLS
Equilibrium
wage, W
Result:
Eq’m Output 
Eq’m wage or

Supply
BUT Labor
Demand
also
FALLS
Demand
0
Equilibrium
employment,L
Quantity of
Labor
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Table 2 Productivity and Wage Growth
in the United States.
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What causes productivity increase?
• Physical capital
More (better) machines to work with.
• Human capital
More education.
More experience.
Better training.
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OTHER FACTORS OF PRODUCTION:
LAND AND CAPITAL
• Physical Capital refers to the equipment and
structures used to produce goods and services.
• The economy’s capital represents the accumulation
of goods produced in the past that are being used in
the present to produce new goods and services.
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OTHER FACTORS OF PRODUCTION:
LAND AND CAPITAL
• Prices of Land and Capital
• The purchase price is what a person pays to own a
factor of production indefinitely.
• The rental price is what a person pays to use a
factor of production for a limited period of time.
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Equilibrium in the Markets for Land and
Capital
• The rental price of land and the rental price of
capital are determined by supply and demand.
• The firm increases the quantity hired until the value
of the factor’s marginal product equals the factor’s
price.
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Figure 7 The Markets for Land and Capital
(a) The Market for Land
Rental
Price of
Land
(b) The Market for Capital
Rental
Price of
Capital
Supply
P
Supply
P
Demand
Demand
0
Q
Quantity of
Land
0
Q
Quantity of
Capital
Copyright©2003 Southwestern/Thomson Learning
Equilibrium in the Markets for Land and
Capital
• Each factor’s rental price must equal the value
of its marginal product.
• They each earn the value of their marginal
contribution to the production process.
P x MPPlabor = wage
P x MPPcapital = capital rent
P x MPPland = land rent
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Equilibrium in the Markets for Land and
Capital
P x MPPlabor = wage
P x MPPcapital = capital rent
for example,
P = capital rent/MPPcapital
capital rent/MPPcapitalx MPPlabor = wage
MPPlabor /MPPcapital = wage /capital rent
Ratio of Mgl Products = Ratio of factor prices
So if daily wage is $100, and daily rental is $500, what can
we say about ratio of Mgl Products?
A> MPPlabor /MPPcapital = 100/500
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Equilibrium in the Markets for Land and
Capital
MPPlabor /MPPcapital = wage /capital rent
Ratio of Mgl Products = Ratio of factor prices
MPPlabor / wage = MPPcapital /capital rent
Bang/$ = Bang/$
If Bang/$ for laborers is GREATER than for machines,
what do we do? Why?
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Linkages among the Factors of Production
• Factors of production are used together.
• The marginal product of any one factor depends on
the quantities of all factors that are available.
• A change in the supply of one factor alters the
earnings of all the factors.
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Linkages among the Factors of Production
• A change in earnings of any factor can be found
by analyzing the impact of the event on the
value of the marginal product of that factor.
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Summary
• The economy’s income is distributed in the
markets for the factors of production.
• The three most important factors of production
are labor, land, and capital.
• The demand for a factor, such as labor, is a
derived demand that comes from firms that use
the factors to produce goods and services.
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Summary
• Competitive, profit-maximizing firms hire each
factor up to the point at which the value of the
marginal product of the factor equals its price.
• The supply of labor arises from individuals’
tradeoff between work and leisure.
• An upward-sloping labor supply curve means
that people respond to an increase in the wage
by enjoying less leisure and working more
hours.
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Summary
• The price paid to each factor adjusts to balance
the supply and demand for that factor.
• Because factor demand reflects the value of the
marginal product of that factor, in equilibrium
each factor is compensated according to its
marginal contribution to the production of
goods and services.
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Summary
• Because factors of production are used together,
the marginal product of any one factor depends
on the quantities of all factors that are available.
• As a result, a change in the supply of one factor
alters the equilibrium earnings of all the factors.
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