Chapter 10: Pricing in Resource Markets Resource markets Resource demand The labor market Resource markets Resource demand The labor market

Factor/Resource markets Factors of production:  land  labor  capital  entrepreneurship factor prices determined in resource markets Factors of production:  land  labor  capital  entrepreneurship factor prices determined in resource markets

resources markets same concepts of demand and supply  now applied to factors of production same concepts of demand and supply  now applied to factors of production

resource demand producer will demand an additional unit of resource if MR of resource > MC of resource

example: Wal Mart labor market 1 more clerk costs $400 per week 1 more clerk increases revenue by $500 week hire 1 more clerk?  Yes! $500 > $400 labor market 1 more clerk costs $400 per week 1 more clerk increases revenue by $500 week hire 1 more clerk?  Yes! $500 > $400

example: lawn service capital market larger, faster mower costs extra $400/wk. but mow more lawns, extra $600/wk. in revenue buy the mower?  Yes! $600 > $400 capital market larger, faster mower costs extra $400/wk. but mow more lawns, extra $600/wk. in revenue buy the mower?  Yes! $600 > $400

termsterms marginal revenue product (MRP)  extra revenue from one more unit of resource marginal resource cost (MRC)  extra cost for one more unit of resource marginal revenue product (MRP)  extra revenue from one more unit of resource marginal resource cost (MRC)  extra cost for one more unit of resource

rule for resource demand firm hires additional resources until  MRC = MRP cost of the extra resource = extra revenue from the resource firm hires additional resources until  MRC = MRP cost of the extra resource = extra revenue from the resource

resource supply you will supply your resources to the “best” option  highest paying (if all else equal) nonmonetary factors are important  firms must compensate when jobs are dirty, dangerous, illegal….. you will supply your resources to the “best” option  highest paying (if all else equal) nonmonetary factors are important  firms must compensate when jobs are dirty, dangerous, illegal…..

The Market for Resources resource demand  downward sloping  producers less willing, able to buy resources at higher prices resource demand  downward sloping  producers less willing, able to buy resources at higher prices

resource demand is a DERIVED demand  it depends on the demand for the final product resource demand is a DERIVED demand  it depends on the demand for the final product

examplesexamples demand for nurses  depends on demand for healthcare demand for steel  depends on demand for cars demand for plywood  depends on demand for houses demand for nurses  depends on demand for healthcare demand for steel  depends on demand for cars demand for plywood  depends on demand for houses

Shifts in demand for a resource demand for final product  if product demand rises, MRP rises  resource demand shifts right productivity of resource  better resource, higher MP & MRP  resource demand shifts right demand for final product  if product demand rises, MRP rises  resource demand shifts right productivity of resource  better resource, higher MP & MRP  resource demand shifts right

examplesexamples increase demand for healthcare  increase demand for nurses  increase demand for syringes higher-skilled labor  increases demand for labor increase demand for healthcare  increase demand for nurses  increase demand for syringes higher-skilled labor  increases demand for labor

price of other resources  if price of substitute resource falls -- substitute cheaper resource -- demand for original resource shifts left price of other resources  if price of substitute resource falls -- substitute cheaper resource -- demand for original resource shifts left

exampleexample bank  ATMs vs bank tellers  ATM costs falls -- demand for bank tellers falls bank  ATMs vs bank tellers  ATM costs falls -- demand for bank tellers falls

exampleexample office buildings  skyscrapers in Manhattan  3 stories in Oswego why?  cost of land vs. cost of construction office buildings  skyscrapers in Manhattan  3 stories in Oswego why?  cost of land vs. cost of construction

 if price of complement resource falls -- use more of both resources -- demand for original resource shifts right  if price of complement resource falls -- use more of both resources -- demand for original resource shifts right

exampleexample price of trucks (18-wheeler) fall  increase demand for truck drivers price of trucks (18-wheeler) fall  increase demand for truck drivers

notenote sometimes resources are BOTH substitutes and complements:  computers do some clerical functions AND  need clerical workers to operate them sometimes resources are BOTH substitutes and complements:  computers do some clerical functions AND  need clerical workers to operate them

technology  decrease demand for some types of labor  increase demand for other types of labor technology  decrease demand for some types of labor  increase demand for other types of labor

exampleexample better/cheaper computer technology  increases demand for programmers  decrease demand for architects better/cheaper computer technology  increases demand for programmers  decrease demand for architects

resource supply  upward sloping  suppliers more willing, able to provide resources at higher prices resource supply  upward sloping  suppliers more willing, able to provide resources at higher prices

Q res. P res. S D P* Q*

resource prices tend to equalize across alternative uses  carpenters for houses  carpenters for furniture UNLESS other nonmonetary differences  economics professors vs. business economists  land in Manhattan vs. land in Oswego tend to equalize across alternative uses  carpenters for houses  carpenters for furniture UNLESS other nonmonetary differences  economics professors vs. business economists  land in Manhattan vs. land in Oswego

The Labor Market Labor supply Labor demand Earnings differences Labor supply Labor demand Earnings differences

Labor Supply time is a scarce resource  market work (for pay)  nonmarket work (not for pay) (cleaning, studying)  leisure (for fun) time is a scarce resource  market work (for pay)  nonmarket work (not for pay) (cleaning, studying)  leisure (for fun)

work and utility work is a disutility  but allows you to buy stuff  or to enjoy stuff (clean house, dinner, good grades) work is a disutility  but allows you to buy stuff  or to enjoy stuff (clean house, dinner, good grades)

tradeoff between consumption & leisure  work to buy stuff or to make stuff  but working leaves less time for leisure tradeoff between consumption & leisure  work to buy stuff or to make stuff  but working leaves less time for leisure

implicationsimplications higher wages = higher opp. cost of leisure, nonmarket work  most surgeons don’t mow their lawn  many college sports stars head to the draft early higher wages = higher opp. cost of leisure, nonmarket work  most surgeons don’t mow their lawn  many college sports stars head to the draft early

two effects:  substitution effect  income effect two effects:  substitution effect  income effect Effect of a wage increase

substitution effect as wage rises  opp. cost of other time uses rises  spend more time on market work Qs of labor rises as wages rise as wage rises  opp. cost of other time uses rises  spend more time on market work Qs of labor rises as wages rise

income effect as wages rise  income rises  consumer more of what you like: -- stuff, leisure Qs of labor falls as wages rise as wages rise  income rises  consumer more of what you like: -- stuff, leisure Qs of labor falls as wages rise

if substitution effect > income effect  labor supply is upward sloping if substitution effect < income effect  labor supply is downward sloping which is it? if substitution effect > income effect  labor supply is upward sloping if substitution effect < income effect  labor supply is downward sloping which is it?

labor supply economists observe  upward sloping for most wages  downward sloping at very high wages backward-bending supply curve economists observe  upward sloping for most wages  downward sloping at very high wages backward-bending supply curve

wage Q labor S subst. > inc. effect subst. < inc. effect

Changes in market labor supply adult population  births rates, immigration  increase will shift labor supply right adult population  births rates, immigration  increase will shift labor supply right

preferences  willingness of groups to work  women have increasingly entered labor force -- shift labor supply right preferences  willingness of groups to work  women have increasingly entered labor force -- shift labor supply right

skills, education, training  education increases opp. cost of not working for pay -- labor supply increases with education  increase HS, college graduation -- increase supply high-skill labor -- decrease supply low-skill labor skills, education, training  education increases opp. cost of not working for pay -- labor supply increases with education  increase HS, college graduation -- increase supply high-skill labor -- decrease supply low-skill labor

other sources of income  nonwage income lowers labor supply  less labor supply among those over 50 with the growth of pensions, disability  less labor supply among women with high-earning husbands other sources of income  nonwage income lowers labor supply  less labor supply among those over 50 with the growth of pensions, disability  less labor supply among women with high-earning husbands

Labor demand firm’s demand for labor car wash  perfectly competitive marginal revenue product (MRP)  change in total revenue when one more unit of labor is hired firm’s demand for labor car wash  perfectly competitive marginal revenue product (MRP)  change in total revenue when one more unit of labor is hired

example: car wash price of car wash = $3 car washes per hour price of car wash = $3 car washes per hour Q laborTP MPMRP

how much labor to hire MC of one more unit of labor  marginal resource cost (MRC)  wage MR of one more unit of labor  MRP hire until MRP = wage MC of one more unit of labor  marginal resource cost (MRC)  wage MR of one more unit of labor  MRP hire until MRP = wage

if MRP > wage  hire more labor and still add to profit if MRP < wage  last units labor taking away from profit, hire less labor if MRP > wage  hire more labor and still add to profit if MRP < wage  last units labor taking away from profit, hire less labor

wage Q labor LD if wage = $9 hire 3 units labor

wage Q labor LD wage = $6, hire 4 wage = $12, hire 2

Earnings differences based on both demand-side and supply side factors

Human Capital Skill set  Education, training, experience increases MP of labor & labor demand cost of education means supply of skilled labor lower relative to unskilled labor result is a higher market wage Skill set  Education, training, experience increases MP of labor & labor demand cost of education means supply of skilled labor lower relative to unskilled labor result is a higher market wage

ability/talentability/talent Human capital, but hard to measure the best athletes, most popular movies stars, CEOs command HUGE salary premium over others Human capital, but hard to measure the best athletes, most popular movies stars, CEOs command HUGE salary premium over others

Efficiency wage theory Higher pay leads to better productivity Why?  Better morale, lower turnover  “Cherry pick” the best workers  Workers do not want to risk losing job Higher pay leads to better productivity Why?  Better morale, lower turnover  “Cherry pick” the best workers  Workers do not want to risk losing job

Non-wage job characteristics Risk/danger Working conditions Work is meaningful or glamorous Holding all else constant, dangerous jobs pay more jobs with higher layoff probability pay more Risk/danger Working conditions Work is meaningful or glamorous Holding all else constant, dangerous jobs pay more jobs with higher layoff probability pay more

geographygeography wages higher in U.S.  encourages immigration teacher’s salaries vary significantly by state wages lower in South than Northeast wages higher in U.S.  encourages immigration teacher’s salaries vary significantly by state wages lower in South than Northeast

discriminationdiscrimination age, race, gender wage differentials remain EVEN after controlling for other factors  occupation  education/experience  risk age, race, gender wage differentials remain EVEN after controlling for other factors  occupation  education/experience  risk

unionizationunionization union workers earn more than nonunion workers doing the same jobs  janitors  auto workers  teachers union workers earn more than nonunion workers doing the same jobs  janitors  auto workers  teachers