Transcript Factor Markets Slides

Warm-up: November 14, 2016
Suppose that the government places price controls (a price
ceiling) on the market for college professors. Describe the
effect of this policy on the production of college degrees.
• What sectors of the economy do you think will be
adversely affected by this policy?
• What sectors of the economy might benefit?
Quick – what are the four factors of production?
Factors o’ production:
1. Land – resources made by nature
2. Labor – work done by humans
3. Capital
a. Physical capital – machinery, buildings, tools,
etc
b. Human capital – knowledge, training, education
(entrepreneurship can fit here)
The importance of factor prices affects allocation of
resources
Ex: Mississippi and Louisiana after Hurricane
Katrina
Average wage rate in affected
areas increased by at least
30% - why??
Two features that make these markets special:
– Demand for the factor, which is derived from the
firm’s output choice (known as DERIVED DEMAND)
• Ex: if a ton of kids sign up for Microeconomics, then the
demand for econ teachers will increase
• Ex: if people dislike baseball all of a sudden, then the
demand for workers at Louisville Slugger will decrease
– Factor markets are where most of us get the largest
shares of our income
Factor Incomes and the Distribution of Income
A. Income mostly comes from wages and salaries
B. Some get income from physical capital (ex: stock
ownership)
C. Income also can come from rent earned on land
D. Factor distribution of income: how total income of
economy is divided between labor, land, and capital
Marginal Productivity and Factor Demand
We’re still going to compare marginal costs with marginal
benefits! (Told you MC = MR was important.)
An employer’s marginal cost of a worker = worker’s wage
rate
But what is the marginal benefit??
The Production Function for George and Martha’s Farm
(a) Total Product
Quantity of
wheat
(bushels)
100
TP
80
60
40
20
0
(b) Marginal Product of Labor
1
2
3
Marginal
product of
labor
(bushels
per worker)
19
17
15
13
11
9
7
5
4 5 6
7 8
Quantity of labor (workers)
0
MPL
1
2
3
4
5
6
7
8
Quantity of labor (workers)
Assume that workers must be paid $200 each, and that wheat sells for
$20 per bushel. What is their optimal # of workers?
We know how to do this by finding total cost and marginal
cost…remember the huge spread sheets? 
Another way to find optimal level of output to maximize profit:
Value of the marginal product of labor (VMPL) = P x MPL
Optimal level of output occurs where VMPL = W (wage) – this
is the same thing as where marginal cost (wage) = marginal
revenue!!
Value of Marginal Product of Labor (VMPL) =
Marginal Revenue Product of Labor (MRP or
MRPL)
You will most likely see MRP or MRPL on the AP
test, so get used to seeing it both ways!
Value of the Marginal Product
VMPL (P x MPL)
$380
340
(remember:
price = $20;
wage rate =
$200)
300
260
220
180
140
100
To maximize profit, George and Martha will employ workers up to the point at which, for
the last worker employed, VMPL = W.
The Value of the Marginal Product Curve
Wage rate,
VMPL
Optimal
point
$400
300
A
Market
wage rate
200
Value of the
marginal product
value curve
VMPL (or MRP)
100
0
1
2
3
4
5
6
Profit-maximizing
number of workers
7
8
Quantity of labor
(workers)
The VMPL (or MRP) curve is the same as the individual
producer’s labor demand curve!
Practice – 11/14/16
1. Patty’s Pizza Parlor has the production function per hour
shown below. The hourly wage rate for each worker is $10. Each
pizza sells for $2.
Quantity Quantity Marginal Value of a. Calculate the marginal
of
of pizzas product marginal product of labor for each
Workers
of labor product worker and the value of the
of labor
marginal product of labor per
0
0
worker.
1
9
b. Draw the VMPL (MRP) curve.
2
15
Use your diagram to determine
3
19
how many workers Patty should
4
22
employ.
5
24
c. Now the price of pizza increases to $4. Calculate the VMPL,
and draw the new VMPL curve onto the diagram from part b. How
many workers should Patty employ now?
2. Now, the hourly wage rate rises from $10 to $15. The
price of pizza remains $2 each. Use a diagram to
determine how Patty’s demand for workers responds as
a result of this wage rate increase.
Quantity
of
Workers
Quantity Marginal Value of
of pizzas product marginal
of labor product
of labor
0
0
1
9
2
15
3
19
4
22
5
24
Warm-up: November 15, 2016
Now Patty buys a new high-tech pizza oven that allows
her workers to become twice as productive as before. In
other words, the 1st worker now produces 18 pizzas per
hour instead of 9, and so on. Use the production function
from yesterday’s problem 1, and keep the price of pizza
at $2 and the wage rate $10 per hour.
a. Calculate the new MPL and new MRP.
b. Use a diagram to determine how Patty’s hiring
decision responds to this increase in the
productivity of her workforce. Include the new
MRP curve and the initial MRP curve from
problem 1.
Businesses use multiple resources to produce (labor, capital,
etc). So what’s the best combination?
Least Cost Hiring Rule
MPL / PL = MPK / PK
(L = labor, K = capital)
We’ve seen this type of thing before, but regarding consumers
and matching marginal utility per dollar spent of two products:
# workers
TP
0
0
1
60
2
MP
# capital
TP
MP
0
0
60
1
110
110
150
90
2
170
70
3
240
90
3
220
50
4
320
80
4
250
30
5
390
70
5
260
10
6
450
60
6
265
5
Current level of production: 2 workers, 5 units of capital
Each worker and unit of capital costs $1 each
1. Is this business using the best combination of labor and
capital?
2. How should this business change the amounts of labor and
capital to achieve the lowest cost combination?
3. How many workers and units of capital should they employ?
So…
If MPL / PL > MPK / PK
Hire more workers, less capital
If MPL / PL < MPK / PK
Fire workers, buy more capital
…until MPL / PL = MPK / PK
Another example:
A producer of gadgets pays $5 for each hour of labor and $10
for each hour of capital employed. You can only spend $40.
Find the least-cost combination of labor and capital.
# of L
MPL
# of K
MPK
1
50
1
100
2
40
2
90
3
30
3
80
4
20
4
60
5
10
5
45
6
5
6
30
Remember:
MPL / PL = MPK / PK
Warm-up: November 16, 2016
Warm up problem on board:
Scenario: There has been a recent increase in
immigration into the area.
1.How will this affect the market for farm
hands? Show on the graph.
2.How does this affect Carhart’s farm? Show on
the graph.
The Supply of Labor
(11/16/16)
I. Work vs. Leisure
A. Reality: most people don’t get to decide how many
hours to work
B. Time allocation – what should we do with our time?
1. One hour of work = more income = reduction of
leisure
C. Ex: You make $10 an hour. To decide how many
hours to work, you compare the marginal utility of
an add’l hour of leisure to the marginal utility of
$10 worth of stuff you could buy
D. Optimal labor supply choice (total # of hours):
where MU of hour of work = MU of hour of leisure
The Supply of Labor
• A rise in the wage rate causes both an income and a substitution
effect on an individual’s labor supply.
– The substitution effect of a higher wage rate induces longer
work hours, other things equal (leisure time is now more
expensive in terms of opportunity cost)
– This is countered by the income effect: higher income leads
to a higher demand for leisure, a normal good (you feel
richer)
• If the income effect dominates, a rise in the wage rate can
actually cause the individual labor supply curve to slope the
“wrong” way: downward.
The Individual Labor Supply Curve
(b) The Income Effect Dominates
(a) The Substitution Effect Dominates
Wage rate
Wage rate
Individual labor
supply curve
$20
$20
10
10
Individual
labor supply
curve
0
40
50
Quantity of work (hours)
0
30
40
Quantity of work (hours)
What is a monopoly?
So… take a guess:
What is a monopsony?
Best examples of monopsony:
1. A coal mine in a small town in the
Appalachians
2. GM and Ford back in the day in Detroit (it
kinda works)
3. A monopoly that buys equipment from other
businesses (think Standard Oil in the late
1800s)
A monopolist exerts market power by limiting
quantities produced and jacking up the price,
right?
So how would a monopsony exert ITS market
power?
(Think about a coal mine hiring workers.)
Monopsonist will choose
quantity L and wage rate
w.
Perfectly competitive
conditions (most efficient
point) should be a
quantity of L’ workers and
a wage rate of w’.
Monopsonists choose
fewer workers and pay a
lower wage, similar to
how a monopolist
chooses lower quantity
and higher price for good
– they have the power to
do so.
Warm-up: January 6, 2015
For each of the following situations, give the most likely
explanation for these wage differences.
1.Test pilots for new jet aircraft earn higher wages than
airline pilots.
2.College graduates usually have higher earnings in
their first year on the job than workers without college
degrees have in their first year.
3.Unionized workers are generally better paid than
non-unionized workers.
4.Across all ethnicities, women’s median earnings are
less than men’s median earnings for any given
educational level.
• unattractive/dangerous jobs usually demand
higher wages
• ex: truckers who haul hazardous materials
• differences in talent
• ex: Derek Jeter generates a higher value of
marginal product than a lower-ability person –
commands higher price
• difference in quantity of human capital
• education, training, experience
Other reasons for disparities:
• market power – the role of unions
• efficiency wages – incentives for hard work and
reduction of worker turnover
• leads to inefficiency – translates into
unemployment
• Discrimination
• Market forces tend to work against
discrimination
• Discrimination takes place:
• When there is excess supply of workers
• When it’s institutionalized in govt policy
• Past discrimination plays a role – ex:
education
Earnings Differentials by Education, Gender, and
Ethnicity
Annual
median
earnings,
2006
No HS degree
$70,000
HS degree
College degree
60,000
50,000
40,000
30,000
20,000
10,000
0
White
male
White
female
AfricanAmerican
male
AfricanAmerican
female
Hispanic
man
Hispanic
female