MBMC Workers, Wages, and Unemployment in the Modern Economy

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 3 Five Important Labor Market Trends Trends in Real Wages Over the 20th century, all industrial countries have enjoyed substantial growth in real wages. Since the early 1970s, however, the rate of real wage growth has slowed. Recent decades have brought a pronounced increase in wage inequality in the U.S.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 5 How to measure unemployment? Population Survey The U.S. Census Bureau conducts monthly surveys to determine the status of the labor force in the United States. The working-age population—the number of people aged 16 years and older who are not in jail, hospital, or other institution.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 6 Jobs and Wages The working-age population is divided into two groups: People in the labor force People not in the labor force The labor force is the sum of employed and unemployed workers.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 7 Jobs and Wages To be considered unemployed, a person must be:  without work and have made specific efforts to find a job within the past four weeks, or  waiting to be called back to a job from which he or she was laid off, or  waiting to start a new job within 30 days.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 Unemployment rate The unemployment rate is the percentage of the labor force that is unemployed. The unemployment rate is (Number of people unemployed/Labor force)  100.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 9 Theory How are wages and employment determined in a competitive market? Demand & Supply

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 10 Supply and Demand in the Labor Market Wages and the Demand for Labor The demand for labor depends upon:  The productivity of workers.  The price of the worker’s output.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 11 Production and Marginal Product for Banana Computers Value of Number ofComputersMarginalmarginal product workersproduced per yearproduct(at $3,000/computer 25$75, , , , , , , ,000 How many workers will Banana hire? Observations: Marginal product diminishes Value of marginal product (VMP) = Price ($3,000) x Marginal product (MP)

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 12 Production and Marginal Product for Banana Computers Value of Number ofComputersMarginalmarginal product workersproduced per yearproduct(at $3,000/computer 25$75, , , , , , , ,000 How many workers will Banana hire? Hiring rule: Hire if VMP > W If the wage is: $60,000, hire 3 workers $50,000, hire 5 workers Banana will hire more workers at lower wages

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 13 The Demand Curve for Labor Employment Wage Labor demand The lower the wage, the greater the number of workers hired. The wage can be measured in nominal or real terms.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 14 Supply and Demand in the Labor Market Shifts in the Demand for Labor Two factors determine the demand (VMP) for labor:  The relative price of the company’s output.  The productivity of the workers.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 15 Production and Marginal Product for Banana Computers after an Increase in Computer Prices Value of Number ofComputersMarginalmarginal productmarginal product workersproduced per yearproduct(at $3,000/computer(at $5,000/computer) 25$75,000$125, ,000115, ,000105, ,00095, ,00085, ,00075, ,00065, ,00055,000 Relative price = $3,000 If real wage was $60, hire 3 If real wage was $50, hire 5 Relative price = $5,000 If real wage was $60, hire 7 If real wage was $50, hire 8

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 16 A Higher Relative Price of Output Increases the Demand for Labor Employment Real wage Labor demand (before relative price increase) An increase in the relative price of workers’ output increases the demand for labor. Labor demand (after relative price increase)

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 17 Production and Marginal Product for Banana Computers after an Increase in Worker Productivity Value of Number ofComputersMarginalmarginal product workersproduced per yearproduct(at $3,000/computer 37.5$112, , , , , , , ,500 Assume 50% increase in productivity Relative price = $3,000 If real wage: $60,000, employment = 6 $50,000, employment = 8

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 18 Higher Productivity Increases the Demand for Labor Employment Real wage Labor demand (before productivity increase) Increases in productivity increases VMP. Employers will hire more workers at any given wage. Demand curve shifts right. Labor demand (after productivity increase)

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 19 The Supply of Labor Employment Real wage Labor supply The labor supply curve is upward sloping because, in general, the higher the real wage, the more people are willing to work.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 20 Supply and Demand in the Labor Market Shifts in the Supply of Labor Macroeconomic determinants of the supply of labor:  Size of the working age population; determined by: oDomestic birthrate oImmigration and emigration oAges when people enter and retire from the workforce

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 21 Supply and Demand in the Labor Market Shifts in the Supply of Labor All else being equal, the supply of labor will increase when:  The working age population increases.  The percent of the working age population looking for work increases.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 22 Equilibrium Wages and employment are determined in equilibrium by the interaction of the demand of labor and the supply of labor In a free market, equilibrium wages are at the intersection of labor supply and labor demand If wages are not at equilibrium economic forces will quickly push them into equilibrium

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 23 Equilibrium analysis Employment Real Wage D S N W

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 24 Explaining the Trends in Real Wages and Employment Economic Naturalist Why have real wages increased by so much in the industrial countries?

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 25 An Increase In Productivity Raises The Real Wage Employment Real wage S D w N D’ w’ N’

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 26 Explaining the Trends in Real Wages and Employment Economic Naturalist Factors contributing to productivity growth:  Technological progress  Increase in capital stock

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 27 Growth Rates in Productivity and Real Earnings Observations Reduced growth in productivity reduces the demand for labor and real wage growth Increases in the supply will cause employment to increase and hold real wages down Annual Growth Rate (%) ProductivityReal Earnings

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 28 Explaining the Trends in Real Wages and Employment Economic Naturalist Why has the gap between the wages of less-skilled and higher-skilled workers widened in recent years?

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 29 The Effect of Skill-Biased Technological Change on Wage Inequality Employment Real Wage Employment Unskilled workersSkilled workers D’ unskilled w’ unskilled N’ unskilled The decrease in demand for unskilled workers reduces their wages. The increase in demand for skilled workers raises their wages. D’ skilled N’ skilled w’ skilled S unskilled D unskilled N unskilled S skilled N skilled Initially, wages are equal. w unskilled w’ skilled D skilled

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 30 Explaining the Trends in Real Wages and Employment Increasing Wage Inequality: Technological Change Technological change that is biased in favor of skilled workers will increase wage inequality.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 31 A Legal Minimum Wage May Create Unemployment Employment Real Wage D S N W A w min NANA B NBNB Minimum wage = W min Quantity of workers demanded = N A Quantity of workers supplied = N B Unemployment = N B - N A No minimum wage Wage = W Employment = N No unemployment

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 32 Unemployment Impediments to Full Employment Minimum Wage Laws:  Benefit workers who are employed.  Hurt those who lose their jobs.  Create economic inefficiency.

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 33 A Legal Minimum Wage May Create Unemployment Employment Real Wage D S N W A w min NANA B NBNB Labor unions can push the union wage above the equilibrium -- W min Union workers are employed at high wages Nonunion unemployment increases

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 34 Unemployment Labor Unions Benefits  Reduced worker exploitation  Support progressive labor legislation  Promote democracy in the workplace

MBMC Copyright c 2004 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 35 Unemployment Labor Unions Costs  Unions cause otherwise competitive labor markets to function inefficiently.  Unions may prevent companies from competing in the global economy.