Factor Markets
Unit IV
Basic concepts
• Similar to those of:
– supply and demand
– And product markets
– Same concepts with new application
Circular Flow (review)
• Shows the difference and interaction
between factor and product markets
• The real flow and money flow
• Households supply the factor market
• Business supply the product market
• Households are demand in the product
market
• Business is the demand in the factor
market
Factor, or resource markets
( inputs)
• What is the difference between factor
markets and product markets?
• A firm is both a seller in the product
market and a buyer in the factor market
• Factor markets may be perfectly
competitive or imperfectly competitive.
• MRP=MRC rule
• Basically the same as the MR=MC rule
Big Ideas about Factor, or Resource, Markets
1. Economic concepts are similar to those for product
markets.
2. The demand for a factor of production is derived from
the demand for the good or service produced from this
resource.
3. A firm tries to hire additional units of a resources up
to the point where the resource’s marginal revenue
product (MRP) is equal to its marginal resource cost
(MRC).
4. In hiring labor, a perfectly competitive firm will do
best if it hires up to the point where MRP= the wage
rate. Wages are the marginal resource cost of labor.
More
Big Ideas about Factor, or Resource, Markets
5. If you want a high wage:
A. Make something people will pay a lot for.
B. Work for a highly productive firm.
C. Be in relatively short supply.
D. Invest in your human capital.
6. Real wages depend on productivity.
7. Productivity depends on real or physical capital,
human capital, labor quality and technology
Important terms
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Derived demand
Marginal revenue product
Marginal physical product
Marginal resource cost
Profit maximizing rule for employing
resources
Factor Markets
day 2
• Journal:
Explain the profit maximizing rule for
factor markets. Don’t just state it. Make
sure you understand how and why it
works.
• Why is the MRP or demand downward
sloping?
Diminishing marginal returns
Changes in demand
• What are factors that can shift demand
for a resource?
• Remember that the product market and
factor market are interrelated: derived
demand
• Factors that can shift demand for a
resource:
1. change in product price
2. change in productivity
3. changes in the price of substitutes or
complementary resources depending on
the substitution effect and the output effect
Determinants of the elasticity of
resource demand:
• Rate of MRP decline ( remember that
MRP is the D curve)
• Elasticity of product demand
• Ease of resource substitutability
• The proportion of total costs that the
resource represents
Complete Activity 46 in class
• Things to keep in mind:
– A monopoly firm will hire fewer workers than a
perfectly competitive firm.
– The examples in # 46 compare monopoly and
perfectly competitive firms in the product
markets, even though the analysis is for the
factor markets. They are interrelated.
– Activity #47 for homework