Seminar 6
Labor Markets
© 2009 South-Western/ Cengage Learning
Labor Supply
• Individual labor supply
– Willing and able
– Many possible uses over the realistic range of
wages
– Depends on
• Abilities
• Tastes
• Opportunity cost
•2
Labor Supply and Utility Maximization
• Utility
– Work
• Purchase goods and services from earnings
– Leisure
• Normal good
• Diminishing marginal utility
• Three uses of time
– Market work
– Nonmarket work
– Leisure
•3
Labor Supply and Utility Maximization
• Market and nonmarket work
– Disutility
– Increasing marginal disutility
– Net utility of work
• Disutility of work
• Utility of goods/services purchased
• Maximize utility
– Allocate time: expected MU of last unit spent in
each activity is identical
•4
Wages and Individual Labor Supply
• Substitution effect of wage increase
– Increased opportunity cost of
• Leisure; nonmarket work
– Substitute market work for other activities
– Increase Q supplied to market work
• Income effect of wage increase
– Higher income
• Increased demand for normal goods: leisure
– Reduce Q supplied to market work
•5
Wages and Individual Labor Supply
• Individual labor supply
– Backward bending
– Income effect of higher wage eventually
dominates substitution effect
• Flexibility of hours worked
– Part-time; overtime
– Timing and length of vacation
– School
– Retire
•6
Backward Bending Supply Curve
•7
Things that affect the Supply Curve
• Increase in Population
• Changing Demographics
• Changing alternatives
•8
Nonwage Determinants of Labor
Supply
– Other sources of income
– Nonmonetary factors
– Difficulty of the job
– Quality of work environment
– Status of the position
– Value of job experience
– Taste for work
• Market supply of work
– Horizontal sum of all the individual supply curves
•9
Why Wages Differ
• Differences in
– Training, Education, Age
– Experience
– Ability
– Risk
• Geographic differences
• Discrimination
• Union membership—typically higher wages
•10
The Firm’s Demand for a Resource
• Quantity of resource (labor, L)
• Total product (TP) or Quantity (Q)
• Quantity of output
• Marginal product: MP=∆TP/∆L
• Diminishing marginal returns—successive unit changes in
input results is progressively smaller increases in output
• Marginal revenue product: MRP=∆TR/∆L
– How much total revenue changes as more labor is employed
– Depends on ∆Q and Price of final product
•11
Marginal Revenue Product
• MRP curve = Firm’s demand curve for the
resource
• Perfectly competitive product market: MRP =
MP×Price of final product
• MRP curve slopes downward
– Diminishing marginal returns to resource
• Some market power in product market
• MRP curve slopes downward
– Diminishing marginal returns to resource
– Additional output can be sold only if price falls
•12
Marginal Revenue Product of Labor
•13
Marginal Revenue Product of Labor
•14
Labor Demand Curve
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Increases in Human Capital
Technology
Price of the Product
Quantity of other Inputs
Number of firms in the market
•15
Equilibrium
•16
Changes in Demand
•17
Changes in Supply
•18
Economic Rent
• Payment to the owner of a factor of
production over and above what would be
required to induce the factor owner to offer
the input for use
• Transfer earnings: Payment required to induce
the owner to offer the input for use. Also
known as the opportunity cost
•19
Pure Economic Rent
•20
Pure Transfer Earnings
•21
Mix of Transfer Earnings and
Economic Rent
•22