Chapter 15 - Resource markets
Economic Resources
Resource
Resource Payment
land
rent
labor
wages
capital
interest
entrepreneurial ability
profit
Economic Resources


Rent, wages, and interest are
determined in the markets for land,
labor, and capital.
Entrepreneurs, though, are residual
claimants who receive profits, the
revenue that is left over after all other
factors of production have been paid.
Circular flow


The demand for
resources is a
“derived demand.”
Households are the
source of supply and
firms are the source
of demand in
resource markets.
Equilibrium in resource
markets
Resource demand

Price elasticity of resource demand:
Determinants of price
elasticity of resource demand

The price elasticity of demand for a
resource is expected to be higher when:




the price elasticity of demand for the final
product is relatively high
this resource accounts for a large share of
the firm’s total costs
there are close substitutes for the
resource, and
a longer time period is considered.
Determinants of resource
demand

The demand for a resource will increase
when:






the price of the final product rises
the productivity of the resource rises
the number of buyers increases
the price of a substitute resource rises
the price of a complementary resource declines,
and/or
the firm possesses high levels of other resources.
Market supply

The price elasticity of supply of a
resource is defined as:
Determinants of supply
elasticity

The price elasticity of supply is greater
when:


there are many alternative uses of the
resource, and/or
a longer time period is considered.
Economic Rent

The earnings of
a resource
available in
perfectly inelastic
supply is called
“economic rent.”
Transfer earnings

The earnings of
a resource
available in
perfectly elastic
supply are called
“transfer
earnings.”
Upward sloping resource
supply curve

A resource that
has an upward
sloping
resource
supply curve
receives a mix
of transfer
earnings and
economic rent
Price floor
Price ceiling
Individual firm’s demand for a
resource


A firm will hire an additional unit of a
resource only if this increases the firm’s
profits.
Economic profit = total revenue – total cost
Optimal level of resource use





Marginal revenue product (MRP) = additional
revenue associated with the use of an
additional unit of a resource
Marginal factor cost (MFC) = additional cost
associated with the use of an additional unit
of a resource
Increase resource use if MRP > MFC
Decrease resource use if MRP < MFC
Optimal level of resource use: MRP = MFC
Marginal revenue product


MRP = MR x MPP
If the output market is perfectly
competitive MR = P, so MRP = P x MPP
(in this case, a MRP curve is sometimes
called a VMP curve = “value of the
marginal product”)
MRP curve


MRP curve is
downward sloping
due to law of
diminishing returns.
If the output market
is imperfectly
competitive MR also
declines as resource
use rises, contributing
to the negative slope
of the MRP curve.
Perfectly competitive resource
market

Note that resource price = MFC in this case.
Individual firm in a perfectly
competitive resource market
Monopsony resource market
Multiple resources

A cost-minimizing firm selects a mix of
resources at which the ratio of the MRP
to the MFC is the same for all
resources.