Chapter 12 The Demand For Resources McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter Objectives • Resource pricing • Marginal revenue productivity and firm resource demand • Factors that affect resource demand • Elasticity of resource demand • Optimal combination of resources for the competitive firm 12-2 Resource Pricing • Firms demand resources –Focus on labor • Resource prices are important –Money-income determination (households) –Cost minimization (firms) –Resource allocation (society) –Policy issues (society) 12-3 Resource Demand • All markets are competitive (good and resource) • Derived demand depends on: –Productivity of resource (MP) –Price of good it helps produce (P) • Marginal revenue product (MRP) –Change in TR resulting from unit change in resource (labor) 12-4 Resource Demand Rule for employing resources: • MRP = MRC • Marginal Revenue Product (MRP) Marginal Revenue Product = Change in Total Revenue Unit Change in Resource Quantity • Marginal Resource Cost (MRC) Marginal Resource Cost = Change in Total (Resource) Cost Unit Change in Resource Quantity 12-5 MRP as Resource Demand (1) (2) (3) (4) (5) (6) Units of Total Product Marginal Product Total Revenue, Marginal Revenue Resource (Output) Product (MP) Price (2) X (4) Product (MRP) 0 1 2 3 4 5 6 7 0] 7] 13 ] 18 ] 22 ] 25 ] 27 ] 28 $2 2 2 2 2 2 2 2 7 6 5 4 3 2 1 $0 14 26 36 44 50 54 56 ] ] ] ] ] ] ] $14 12 10 8 6 4 2 $18 Purely Competitive Firm’s Demand for A Resource Resource Wage (Wage Rate) 16 14 12 10 8 6 4 D=MRP 2 0 1 2 3 4 5 6 7 -2 Quantity of Resource Demanded 12-6 MRP as Resource Demand (1) (2) (3) (4) (5) (6) Units of Total Product Marginal Product Total Revenue, Marginal Revenue Resource (Output) Product (MP) Price (2) X (4) Product (MRP) 0 1 2 3 4 5 6 7 0] 7] 13 ] 18 ] 22 ] 25 ] 27 ] 28 $2.80 2.60 2.40 2.20 2.00 1.87 1.75 1.65 7 6 5 4 3 2 1 $ 0.00 ] 18.20 ] 31.20 ] 39.60 ] 44.00 ] 46.25 ] 47.25 ] 46.20 $18.20 13.00 8.40 4.40 2.25 1.00 -1.05 $18 Imperfectly Competitive Firm’s Demand for A Resource Resource Wage (Wage Rate) 16 14 D=MRP (Pure Competition) 12 10 8 6 D=MRP 4 (Imperfect 2 Competition) 0 1 2 3 4 5 6 7 -2 Quantity of Resource Demanded Less elastic than pure comp. due to diminishing returns and lower price12-7 Resource Demand • Amount purchased at different resource prices, all else the same –For the firm, equal to MRP –Market demand equals sum of firm demand • Downsloping because of DMR –Changes in price for imperfect competition 12-8 Calculating Resource Demand Determinants of Resource Demand • Changes in product demand • Changes in productivity –Quantities of other resources (land, capital) –Technological advance (capital) –Quality of variable resource (better training, education) 12-10 Determinants of Resource Demand • Changes in the price of substitute resources • Example: Labor vs. Capital – Substitution effect – Output effect – Net effect • Changes in the price of complementary resources – Output effect only 12-11 Table 12.3 Table 12.4 Employment Trends • Rising employment –Services –Health care –Computers • Declining employment –Labor saving technological change –Textiles 12-14 Elasticity of Resource Demand Erd = Percentage Change in Resource Quantity Percentage Change in Resource Price • Ease of resource substitutability –High = elastic (answering service vs. doctor) • Elasticity of product demand –Direct relationship (wage falls, price falls, Qd rises – how much?) • Ratio of resource cost to total cost –High = elastic 12-15 Optimal Combination of Resources • All resource inputs are variable • Choose optimal combination • Minimize cost of producing a given output • Maximize profit 12-16 The Least Cost Rule • Minimize cost of producing a given output • Last dollar spent on each resource yields the same marginal product Marginal Product Of Labor (MPL) Price of Labor (PL) = Marginal Product Of Capital (MPC) Price of Capital (PC) - Imbalances show X-inefficiency 12-17 Profit Maximizing Rule • MRP of each resource equals its price PL = MRPL and MRPL PL = PC = MRPC MRPC PC =1 12-18 Income Distribution • Paid according to value of service –Workers –Resource owners • Inequality –Productive resources unequally distributed • Market Imperfections – Not all resource markets are perfectly competitive 12-19 Case of ATM’s • • • • • • • • Input substitution Banks use ATMs instead of people Least-cost combination of resources ATMs debut about 35 years ago 11 billion U.S. transactions per year 80,000 tellers eliminated1990-2000 Former tellers find new jobs Customer convenience 12-20 Key Terms • • • • • • • • • • • derived demand marginal product (MP) marginal revenue product (MRP) marginal resource cost (MRC) MRP=MRC rule substitution effect output effect elasticity of resource demand least-cost combination of resources profit-maximizing combination of resources marginal productivity theory of income distribution 12-21 Next Chapter Preview… Wage Determination 12-22