Things to remember about labor market
Marginal Revenue Product (MRP) is the additional revenue generated by the additional labor. MRP =
MPL*MR. It is downward sloping as MPL is decreasing with the increase of labors.
This is the labor demand curve.
VMPL is the value of marginal product of labor. This is the market value of the additional product that is
produced by the additional Labor. VMPL = Price of the product * MPL
It represents the market worth of labor for a given price level. So wage of the labor is set equal to VMPL
by the hiring firm.
For a firm from a perfectly competitive product market, VMPL and MRP are the Same.
But for a firm from Monopoly or monopolistic competition or oligopoly product market VMPL is Greater
than MRP. This is because in these product markets, P is greater than MR.
Individual Supply curve is determined by the trade of between working hours and leisure hours. The
more the wage rate per hour more the worker will be encouraged to work higher hours. This is because
with increasing wage rate opportunity cost of leisure increases. So, as wage rate increases, labors work
more hours. Thus an upward slopping labor supply curve.
But, it is not always upward slopping. After a certain wage rate it bends backward. This is because, after
that certain wage rate, though the opportunity cost of leisure increases with increase in the wage rate,
but the labor is now earning enough to afford labor. With much higher wage rate he is able to work
lesser hours and earn is desired income. So he can afford to enjoy more leisure hours. So after a point,
the more the wage rate increases the lesser hours the labor works. So, supply curve bends backwards.
This is called backward bending labor supply curve.
In case of the labor supply the firm faces
In a perfectly competitive labor market, hiring firm is the price (wage) taker. So it hires each worker at
the same wage that is set in the market. So, marginal cost if hiring extra labor is constant. So, the firms
MFC curve is horizontal at the wage rate.
So, profit maximization for hiring firm in a perfectly competitive labor market occurs where MFC = MRP.
And the profit maximizing quantity of labor is denoted as Q*.
A quantity of labor above Q* will bring loss for the firm.
A quantity of labor below Q* will bring profit, but the more we get close to Q* the more the profit
increases. So highest profit will be available at Q* where MFC = MRP.