14
13
Wage Determination
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Goals
Differentiate between nominal and real
wages.
List those factors that have led to an
increasing level of real wages in the U.S.
historically.
 Non necessarily in the last eight years
Determine the equilibrium wage rate
 employment level
• when given appropriate data for a firm operating in a
purely competitive
Chapter Goals
Illustrate graphically how wage rates are
determined in
 purely competitive
 monopolistic labor markets.
List the methods used by labor organizations
 to increase wages
 and the impact each has on employment.
Chapter goals
Illustrate graphically how an inclusive
(industrial) union and an exclusive (craft)
union would impact
 wages and employment in a previously
competitive labor market.
Explain and illustrate graphically wage
determination
 In the bilateral monopoly model.
Present the major points in the cases for and
against the minimum wage.
Chapter Goals
Explain the demand factors that create wage
differentials.
Explain the supply factors that create wage
differentials.
Describe briefly salary systems in which pay
is linked to performance rather than to time.
Describe the negative side effects of poorly
planned incentive pay plans.
Define and identify terms and concepts
listed at the end of the chapter.
What Do You Want
In Life?
McGraw-Hill/Irwin
Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
I’ll tell ya what I want
Standard Of Living
• What is it?
• Per Investopedia
– The level of wealth, comfort, material goods and
necessities available to a certain socioeconomic class in a
certain geographic area.
– The standard of living includes factors such as income,
quality and availability of employment, class disparity,
poverty rate, quality and affordability of housing, hours
of work required to purchase necessities, gross domestic
product, inflation rate, number of vacation days per year,
– The standard of living is closely related to quality of life.
What Do You Want?
Answer: Full sheet of paper
1. What standard of living do you want for
yourself?
 Better, the same or worse than your parents?
 2. WHY?
Income
What is income?
 The money a person receives in exchange for
work or use of property
Many sources
 Assets
 Work done
• Labor wages make up 70% of all total income
• 30% from Assets: interest, dividends, rents profits
Answer
3. Highest level of education attained within
6 years after HS.
4. Name some high paying careers?
5. What education level does each require?
Answer
6. So what will you be making 6 years after
HS per year?
7. Key answer: What will justify you being
paid that amount?
All of this from the previous slide are related
to Income
 quality and availability of employment, class
disparity, poverty rate, quality and affordability
of housing, hours of work required to purchase
necessities, gross domestic product, inflation
rate, number of vacation days per year,
Highest Paid Careers
Doctors’ salaries are so high not only
because of supply and demand but also to
offset the amounts they have to invest in
education and malpractice insurance. The
33,310 anesthesiologists in the U.S. also
work long shifts and play an integral role in
keeping patients alive during surgery to earn
their sizable salaries. The high pay reflects
the responsibility and risk involved in their
job.
Top Paying Careers In US
Top paying careers
Myplan.com top paying careers
Lowest Paid Work
The lowest-paid workers, fast food cooks,
earn $9 an hour, for an average annual salary
of $18,720. More than a half million people
in the U.S. hold this position, and another
2.8 million are in a food preparation and
serving job, the second worst-paying
occupation. Dishwashers and shampooers
trail close behind, making a meager $18,840
and $19,130 a year, respectively.
So how do you make depends in large part
on--Almost all are related to education
Life Is Not Fair
Get used to it!!!
Only about 25% to 30% of students
graduating today will earn a college degree
(in 6 years)
 30% ± drop out of HS
 0f those 70± remaining, 60% go to college (42
students)
 Of those, 40±% do not finish in 6 years
• Some go back as adults to start/finish
• National Center For Education Statistics
Education does not necessarily mean college
 Engineering degree vs. Liberal Arts degree
 Certified Automotive mechanic vs. High School
Education
• China: World's Largest Supplier Of
Educated Workers
• By 2030, China alone will account for 30
percent of the world's new college-educated
workers, predicts a study by the McKinsey
Global Institute.
• In comparison, the United States will
account for only 5 percent, and collectively,
advanced countries including the U.S.,
Japan and much of Europe will account for
only 14 percent of new highly educated
workers.
Apply Supply & Demand To Wages
What happens-- Why can you work in the Perdoe Bay and make
$100,000 a year or more?
 Why can you move to North Dakota an make
$100,000 without a college degree
 Why do Walmart workers barely make
mimimum wage?
Labor, Wages ,and Earnings
Wages
 Price paid for labor
 Direct pay plus fringe benefits
Wage rate
 Price per unit paid
Labor, Wages ,and Earnings
Nominal wage
 Amount of money received per hour
Real wage
 Quantity of goods or services a worker can
purchase
 With a nominal wage
Wages
Real wages only increase if nominal wages
increase faster than the inflation rate.
If prices increase faster than nominal wages,
real wages will fall.
 This has happened for last 5+ years
Over the last 5 years, real wages for the
lowest 70% of educated in US
 Have fallen!!!
Wages And Employment
For most, labor market is only source of
income
 We work and earn a wage
But: What determines the amount of labor we
supply?
What determines the amount of wages will be
paid?
Role Of Productivity
Demand for labor (or any resource) depends
on productivity
Generally
 The greater the productivity of labor
 The greater the demand for labor
Role Of Productivity
Demand for labor in advanced economies is
large
 Because labor is highly productive
Real Wages and Productivity
Generally a close relationship
Real income and real output are two ways of
looking at the same thing
Per worker compensation can only increase
 At about same rate as productivity or output per
worker
Gross Domestic Product
The market value of all officially recognized
final goods and services produced
 within a country
 in a given period of time.
GDP per capita is often considered an
indicator of a country's standard of living
 GDP per capita is not a measure of personal
income
Under economic theory,
 GDP per capita exactly equals the gross
domestic income per capita
Productivity
Look at productivity factors
You are late = you are not as productive as
someone on time
Examine personal productivity
Role Of Productivity
Plentiful capital
Access to abundant natural resources
Advanced technology
Labor quality
Other factors
Role Of Productivity
Plentiful capital
 Physical
 Money
Access to natural resources
 Available in large quantities
 In relation to labor force
Advanced technology
 Available capital is also advanced
Role Of Productivity
Labor quality




Healthy
Vigorous (motivated)
Educated
High quality training
Therefore, tend to be efficient
Other factors




Efficiency of management
Business
Social and political environment
Increased specialization
Real Wages and Productivity
Generally a close relationship
Real income and real output are two ways of
looking at the same thing
Per worker compensation can only increase
 At about same rate as productivity or output per
worker
Real Wages and Productivity
Real world, suppliers of
 land,
 capital
 talent
• also share in profits (today; disproportional)
Therefore, real wages do not always rise the
same as productivity
Over short periods of time
Over long term, productivity and real wages
tend to rise together
Unemployment rates impact wages
 Why or how?
 Graph any job using Supply and Demand
• High unemployment
• Low unemployment
Output is increasing
 Compensation not keeping pace
 WHY? Where are the increases in productivity
(money) going?
 We are now going full circle to the beginning of
the year
 Research: Start with Huffington Report
• Wages aren’t keeping up with US Productivity
Real Wages and Productivity
LO1
13-54
20% of the
people control
92% of the
wealth in the
United States
Productivity
Answer
 What makes you personally productive?
 What would make you a more productive
citizen?
Real Wages and Productivity
History repeats itself
 Ford Motor Company made headlines in 1914 by offering autoworkers $5 per day, up from
$2.50 per day. The wage payment was newsworthy because the typical market wage in
manufacturing at
that time was just $2 to $3 per day.


What was Ford’s rationale for offering a higher-than-competitive wage? Statistics indicate
that the
firm was suffering from high rates of job quitting and absenteeism. It reasoned
that a high wage rate would increase worker productivity by increasing morale and reducing
employment turnover.
Only workers who worked at Ford for at least six months were
eligible for the $5 per day wage.
Nevertheless, 10,000 workers sought jobs with Ford in the
immediate period following the
announcement of the wage increase.


According to historians, the Ford strategy succeeded. The $5 wage raised the value of the
job to Ford workers. That created worker incentives to maintain employment at Ford and show
up for work each day. It also encouraged laborers to work energetically so as not to be fired from
a job that paid much more than alternative employment. The rates of job quitting and
absenteeism both
plummeted, and labor productivity at Ford rose by an estimated 51
percent that year.


The $5 wage was an efficiency wage—one that raised the marginal revenue product of
Ford workers. Ford’s pay plan addressed its principal-agent problem. The $2.50 wage hike
“paid for
itself” by more closely aligning the interests of Ford workers and owners.

 1 This application is from Campbell R. McConnell, Stanley L. Brue, and David A. Macpherson,
Contemporary Labor Economics, 5th ed. (New York: McGraw-Hill, 1999), p. 233. It is based in
part on Daniel M. G. Raff and Lawrence Summers, “Did Henry Ford Pay Efficiency Wages?”
Journal of Labor Economics, pt. 2, October 1987, pp. S57-S86.
 Barely a week after coming out in favor of
increasing the federal minimum wage to $10.10,
Costco CEO Craig Jelinek reported that his
company posted profits of $537 million for the last
quarter. That’s up from $394 million last year. “At
Costco,” Jelinek said, “we know that paying
employees good wages makes good sense for
business.” He went on to elaborate that “We know
it’s a lot more profitable in the long term to
minimize employee turnover and maximize
employee productivity, commitment and loyalty.”
Supply Of Labor
People supply labor to earn income
Many factors influence the quantity of labor
 What a person provides
•
•
•
•
Knowledge
Motivation
Creativity
Skills
 KEY factor is wage rate
WAGES AND EMPLOYMENT
The Supply of Labor
 People supply labor to earn an income.
 Many factors influence the quantity of labor that
a person plans to provide,
• but the wage rate is a key factor.
 Figure on the next slide shows an individual’s
labor supply curve.
WAGES AND EMPLOYMENT
The table shows
Larry’s labor supply
schedule, which is
plotted in the figure
as Larry’s labor
supply curve.
Productivity, which measures the goods and
services generated per hour worked
 Rose by 80.4% between 1973 and 2011
 Compared to a 10.7% growth in median hourly
compensation
This factors ALL compensation
Rose more for educated workers
WAGES AND EMPLOYMENT
Adult Population
An increase in the adult population increases the
supply of labor.
Preferences
There has been a large increase in the supply of
female labor since 1960.
The percentage of men with jobs has shrunk
slightly.
WAGES AND EMPLOYMENT
Time in School and Training
The more people who remain in school for fulltime education and training,
•the smaller is the supply of low-skilled labor.
US has fallen behind some nations in its
college educated population
 What does this mean for the US economy?
 What will happen to US wages and the
difference between the people with money and
the people without money?
Global Perspective
LO1
13-72
WAGES AND EMPLOYMENT
The table shows
Larry’s labor supply
schedule, which is
plotted in the figure
as Larry’s labor
supply curve.
WAGES AND EMPLOYMENT
1. At a wage rate of
$10.50 an hour,
Larry …
2. …supplies 30
hours of labor a
week.
WAGES AND EMPLOYMENT
3. As the wage rate
rises, Larry’s
quantity of labor
supplied …
4. …increases,
5. …reaches a
maximum, …
6. …then
decreases.
WAGES AND EMPLOYMENT
This supply curve
shows how the
quantity of car wash
workers supplied
changes when the
wage rate changes,
other things
remaining the same.
WAGES AND EMPLOYMENT
In a market for a
specific type of
labor, the
quantity
supplied
increases as the
wage rate
increases, other
things
remaining the
same.
Minimum Wage
What is minimum wage?
Is minimum wage free market? Why or
why not?
Should we have a minimum wage?
What factors do you think are contributing
to wages going down and productivity is
going up?
Role of Productivity
Labor demand depends on
LO1
productivity
U.S. labor is highly productive
 Plentiful capital
 Access to abundant natural
resources
 Advanced technology
 Labor quality
 Other factors
13-82
Inflation and Real Wage Increases
If inflation runs at 2%
Wage increases are 3%
Real wage increases are 1%
 Increase in purchasing power
If inflation is 3%
Wage increases are 2%
Real wages increases are a negative 1%
 Loss of buying power
Wage Rate (Dollars)
Demand Enhancement Model
Union model
 Increase product demand
 Alter price of other inputs
S
Increase
In Demand
Wu
Wc
D2
D1
Qc
Qu
Quantity of Labor
LO4
13-90
Craft Union Model
Effectively reduce supply of labor
 Restrict immigration
 Reduce child labor
 Compulsory retirement
 Shorter workweek
Exclusive unionism
Occupational licensing
LO4
13-91
Craft Union Model
Wage Rate (Dollars)
S2
S1
Decrease
In Supply
Wu
Wc
D
Qu
Qc
Quantity of Labor
LO4
13-92
Industrial Union Model
Inclusive unionism
 Auto and steel workers
Wage Rate (Dollars)
S
Wu
a
b
e
Wc
D
Qu
Qc
Qe
Quantity of Labor
LO4
13-93
Test
Craft Union Model
Wage Rate (Dollars)
S2
S1
Decrease
In Supply
Wu
Wc
D
Qu
Qc
Quantity of Labor
LO4
13-110
Inclusive or Industrial Union Model
Attempt to unionize all workers
 Auto and steel trucking
Can put immense pressure on industry
 Can strike en mass
• Teamsters in the 60’s
• Transit in Philadelphia 40’s
Industrial Union Model
Inclusive unionism
 Auto and steel workers
Wage Rate (Dollars)
S
Wu
a
b
e
Wc
D
Qu
Qc
Qe
Quantity of Labor
LO4
13-112
Craft Union Model
Effectively reduce supply of labor
 Restrict immigration
 Reduce child labor
 Compulsory retirement
 Shorter workweek
Exclusive unionism
Occupational licensing
LO4
13-113
Union Models
Are unions successful?
 Wages 15% higher on average
Consequences:
 Higher unemployment
 Restricted ability to demand higher
wages
LO4
13-114
US participation peaked in 60’s at 30+%
Now sits at 11% ± and is declining
Most union members are now in public
sector
 Philadelphia and New York are two strongholds
Answer
Given these factors, why do you think the
economic impact of unions is diminished
and the number of workers covered by
unions has been shrinking since the 1940’s?
Bilateral Monopoly Model
Monopsony and inclusive unionism
Single buyer and seller
Not uncommon
Indeterminate outcome
Desirability
LO4
13-119
The Minimum Wage Controversy
Case against minimum wage
Case for minimum wage
State and locally set rates
Evidence and conclusions
LO5
13-121
Minimum Wage
Current minimum wage
 $7.25 per hour
Tend to be industries that make only a few
cents per dollar profit
Generally young workers
Research
What are five reasons to raise minimum
wage?
What are five reasons to NOT raise
minimum wage?
What is your opinion and WHY?
Wage Differentials
Workers prevented from moving to
higher paying jobs
Market imperfections
 Lack of job information
 Geographic immobility
 Unions and government restraints
 Discrimination
LO5
13-126
Pay for Performance
The principal-agent problem
Incentive pay plan
 Piece rates
 Commissions or royalties
 Bonuses, stock options, and profit
sharing
 Efficiency wages
Negative side-effects
LO6
13-130
Are CEOs Overpaid?
U.S. CEO salaries relatively high
Good decisions enhance productivity
Limited supply, high MRP
Incentive to raise productivity at all
levels
High salary bias by board members
Unsettled issue
LO6
13-131
Prepare (Max 2 pages – MLA format)
 on whether CEOs as well as superstars in the
sports and entertainment industry are overpaid.
Hand in at 8:00
Debate last 15 minutes