copyright©2004 south-western 18 labor market equilibrium

Copyright©2004 South-Western

1818Labor Market

Equilibrium

Copyright © 2004 South-Western

EQUILIBRIUM IN THE LABOR MARKET

• The wage adjusts to balance the supply and demand for labor.

• The wage equals the value of the marginal product of labor.

Figure 4 Equilibrium in a Labor Market

Copyright©2003 Southwestern/Thomson Learning

Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W

Equilibriumemployment, L


EQUILIBRIUM IN THE LABOR MARKET

• Labor supply and labor demand determine the equilibrium wage.

• Shifts in the supply or demand curve for labor cause the equilibrium wage to change.

Figure 5 A Shift in Labor Supply


Wage(price of

labor)

0 Quantity ofLabor

Supply, S

Demand

2. . . . reducesthe wage . . .

3. . . . and raises employment.

1. An increase inlabor supply . . .

S

W

L

W

L


Shifts in Labor Supply

• An increase in the supply of labor :• Results in a surplus of labor.• Puts downward pressure on wages.• Makes it profitable for firms to hire more workers.• Results in diminishing marginal product.• Lowers the value of the marginal product.• Gives a new equilibrium.

Figure 6 A Shift in Labor Demand


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand, D

2. . . . increasesthe wage . . .

3. . . . and increases employment.

D

W

L

W

L

1. An increase inlabor demand . . .


Shifts in Labor Demand

• An increase in the demand for labor :• Makes it profitable for firms to hire more workers.• Puts upward pressure on wages.• Raises the value of the marginal product.• Gives a new equilibrium.

What is the Effect of a Minimum Wage?


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W


Wmin

Lmin

Why is minimum wage likely to reduce employment?

Why is minimum wage likely to reduce employment?

How MUCH … depends on the elasticity of demand for labor. Why?

How MUCH … depends on the elasticity of demand for labor. Why?

Who Pays for Health Insurance?


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W


Costs $2Costs $2

Worth $2Worth $2

Wages

Benefits

Who PAYS?!

Who PAYS?!

Why?Why?

What do unions do?


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W


If workers are more skilled,they have higher MPs.

W*

What do unions do?


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W


If workers are no more skilled,Increased W unemployment

W* What happens To total wages,W*L*?A> It dependson the elasticity of demand

L*

What happens during epidemics?


Wage(price of

labor)

0 Quantity ofLabor

Supply

Demand

Equilibriumwage, W


Labor Supply FALLS

Labor Supply FALLS

BUT Labor Demand also FALLS

BUT Labor Demand also FALLS

Result:Eq’m Output Eq’m wage or

Result:Eq’m Output Eq’m wage or

Table 2 Productivity and Wage Growth in the United States.

Copyright©2004 South-Western


What causes productivity increase?

• Physical capitalMore (better) machines to work with.

• Human capitalMore education.More experience.Better training.


OTHER FACTORS OF PRODUCTION: LAND AND CAPITAL

• Physical Capital refers to the equipment and structures used to produce goods and services.• The economy’s capital represents the accumulation

of goods produced in the past that are being used in the present to produce new goods and services.


OTHER FACTORS OF PRODUCTION: LAND AND CAPITAL

• Prices of Land and Capital• The purchase price is what a person pays to own a

factor of production indefinitely.• The rental price is what a person pays to use a

factor of production for a limited period of time.


Equilibrium in the Markets for Land and Capital

• The rental price of land and the rental price of capital are determined by supply and demand. • The firm increases the quantity hired until the value

of the factor’s marginal product equals the factor’s price.

Figure 7 The Markets for Land and Capital


Quantity ofLand

0

RentalPrice of

Land

Demand

Supply

Demand

Supply

Quantity ofCapital

0

RentalPrice ofCapital

Q

P

(a) The Market for Land (b) The Market for Capital

P

Q



• Each factor’s rental price must equal the value of its marginal product.

• They each earn the value of their marginal contribution to the production process.P x MPPlabor = wage

P x MPPcapital = capital rent

P x MPPland = land rent



P x MPPlabor = wage

P x MPPcapital = capital rent

P = capital rent/MPPcapital

capital rent/MPPcapitalx MPPlabor = wage

MPPlabor /MPPcapital = wage /capital rent Ratio of Mgl Products = Ratio of factor prices

So if daily wage is $100, and daily rental is $500, what can we say about ratio of Mgl Products?

A> MPPlabor /MPPcapital = 100/500

for example,



MPPlabor /MPPcapital = wage /capital rent

Ratio of Mgl Products = Ratio of factor prices

MPPlabor / wage = MPPcapital /capital rent

Bang/$ = Bang/$

If Bang/$ for laborers is GREATER than for machines, what do we do? Why?


Linkages among the Factors of Production

• Factors of production are used together.• The marginal product of any one factor depends on

the quantities of all factors that are available.

• A change in the supply of one factor alters the earnings of all the factors.


Linkages among the Factors of Production

• A change in earnings of any factor can be found by analyzing the impact of the event on the value of the marginal product of that factor.


Summary

• The economy’s income is distributed in the markets for the factors of production.

• The three most important factors of production are labor, land, and capital.

• The demand for a factor, such as labor, is a derived demand that comes from firms that use the factors to produce goods and services.


Summary

• Competitive, profit-maximizing firms hire each factor up to the point at which the value of the marginal product of the factor equals its price.

• The supply of labor arises from individuals’ tradeoff between work and leisure.

• An upward-sloping labor supply curve means that people respond to an increase in the wage by enjoying less leisure and working more hours.


Summary

• The price paid to each factor adjusts to balance the supply and demand for that factor.

• Because factor demand reflects the value of the marginal product of that factor, in equilibrium each factor is compensated according to its marginal contribution to the production of goods and services.


Summary

• Because factors of production are used together, the marginal product of any one factor depends on the quantities of all factors that are available.

• As a result, a change in the supply of one factor alters the equilibrium earnings of all the factors.

copyright©2004 south-western 18 labor market equilibrium

Documents

supply of labor

labor market labor supply

surplus of labor

labor market equilibrium

marginal product of

w equilibrium employment

southwestern equilibrium

wage growth