Chapter 11 – question 9, page 269
Question 9 (opportunity Cost and Economic Rent) Define economic rent.
Economic rent is defined as the excess payment, beyond the minimum wage, to the
labor in order to sustain the labor supply.
In the graph below, assume that the market demand curve for labor is initially 𝑫𝟏
DOLLARS PER UNIT
S
a
b
n
k
h
r
l
i
t
c
m
i
D3
v
D1
o
e
f
g
D2
QUALITY OF
LABOR
A. What are the equilibrium wage rate and employment level? What is the
economic rent?
Equilibrium wage rate is point b and employment level is point f. Economic rent is the
area bounded by points b, l and v.
B. Next assume that the price of a substitute resource increases, other things
constant. What happens to demand for labor? What are the new equilibrium wage
rate and employment level? What happens to economic rent?
If price of substitute increases, demand for labor increases and market demand curve
will shift up to D3. New equilibrium wage rate is point h and employment level is point g.
Economic rent increases, and is now area bounded by points a, h and v.
C. Suppose instead that demand for the final product drops, other things
constant. Using labor demand curve 𝑫𝟏 as your setting point, what happens to
the demand for labor? What are the new equilibrium wage rate and employment
level? Does the amount of economic rent change?
If demand for final product drops, demand for labor would decrease and market demand
curve would shift down to D2. New equilibrium wage rate is point c and employment
level is point e. Economic rent decreases and is given by area bounded by point c, t and
v.
Chapter 11 – question 10, page 269
Question 11 (Selling Output as a price Taker) If a competitive firm hires another full time
worker, total output increases from 100 units to 110 units per week. Suppose the market
price of output is $25 per unit. What us the maximum weekly wage at which the firm would
hire that additional worker?
Increase in total weekly revenue = $25*(110-100) = $250
So, maximum weekly wage for the additional worker would be $250.
Chapter 12 – question 4, page 291
Question 4 page 291 ( Substitution and income effects) Suppose that the
substitution effect of an increase in the wage rate exactly offsets the income
effect as the hourly wage increases from $12 to $13. What would the supply of
labor curve look like over this range of wages? Why?
Supply labor curve over this range of wages would be vertical, because the quantity of
labor supply would not change if substitution effect exactly offsets the income effect.
Chapter 12 – question 12, page 292
Question 12 Page 292 (Craft Unions) Both industrial unions and craft unions
attempt to raise their members' wages, but each goes about it differently. Explain
the difference in approaches and describe the impact these differences have no
excess quality of labor supplied.
Industrial unions attempt to raise member’s wage generally by negotiating a wage higher than
market level for each class of labor industry-wide. But craft unions do so by reducing supply of
labor by limiting membership and then forcing employers to hire only union members. Both
these approaches lead to a reduction in employment level and thus, an excess of labor supplied.
Though both methods result in excess of labor supplied, the wage setting approach leads to a
relatively higher excess as compared to craft union’s approach, because a higher minimum wage
also increases market labor supply apart from decreasing the employment level. Then, craft
union can also increase the employment and mitigate excess labor if it increases its own demand
for union labor.