The Labor Market Chapter 8 Copyright © 2011 by The McGraw-Hill Companies, Inc. All Rights Reserved.McGraw-Hill/Irwin

8-2 Labor Supply The willingness and ability to work specific amounts of time at alternative wage rates in a given time period, ceteris paribus. LO-1

8-3 Income versus Leisure The opportunity cost of working is the amount of leisure time that must be given up in the process: –Opportunity cost is the most desired goods or services that are forgone in order to obtain something else. LO-1

8-4 As the opportunity cost of work increases, we require higher rates of pay. The marginal utility of income declines as more is earned. The upward slope of an individual labor supply curve reflects two things: –Increasing opportunity cost of labor. –Decreasing marginal utility of income. Income versus Leisure LO-1

8-5 Market Supply Market supply of labor–the total quantity of labor that workers are willing and able to supply at alternative wage rates in a given time period, ceteris paribus. As labor-market entrants increase, the quantity of labor supplied goes up. LO-1

8-6 Labor Demand Demand for labor–the quantities of labor employers are willing and able to hire at alternative wage rates in a given time period, ceteris paribus. LO-2

8-7 Derived Demand Derived Demand–The demand for labor and other factors of production results (is derived) from the demand for the final goods and services produced by these factors. LO-2

8-8 The quantity of resources purchased by a business depends on the firm’s expected sales and output. The demand for labor depends on the demand for the product that the labor is producing. Derived Demand LO-2

8-9 What does your major pay?

8-10 The Wage Rate The quantity of labor demanded depends on its price—the wage rate. The farmer paying $30 an hour to labor may not hire as much labor as she would at $10 per hour. LO-3

8-11 Figure 8.2

8-12 Marginal Physical Product (MPP) We measure a worker’s value to the firm by his or her marginal physical product (MPP). LO-3

8-13 Marginal physical product–the change in total output associated with one additional unit of an input: MPP = change in total output change in quantity of labor Marginal Physical Product (MPP) LO-3

8-14 In most situations, the marginal physical product declines as more workers are hired. Marginal Physical Product (MPP) LO-3

8-15 Marginal Revenue Product (MRP) Marginal revenue product–the change in total revenue associated with one additional unit of input: MPP = change in total revenue change in quantity of labor LO-3

8-16 Marginal revenue product sets an upper limit to the wage rate an employer will pay. Marginal Revenue Product (MRP) LO-3

8-17 The Law of Diminishing Returns The marginal physical product of labor eventually declines (or diminishes) as the quantity of labor employed increases. Marginal physical product declines because more people must share limited facilities. LO-3

8-18 The Law of Diminishing Returns– The marginal physical product of a variable factor declines as more of it is employed with a given quantity of other (fixed) inputs. The Law of Diminishing Returns LO-3

8-19 Figure 8.3

8-20 Diminishing Marginal Revenue Product (MRP) As MPP diminishes, so does MRP. MRP = MPP x p If p is assumed to be constant, then MRP diminishes along with MPP. LO-3

8-21 Table 8.1

8-22 The Hiring Decision The number of workers that will be hired is determined by the demand for and the supply of labor. LO-3

8-23 The Firm’s Demand for Labor A firm will continue to hire until the MRP has declined to the level of the market wage rate. The Marginal Revenue Product curve is the labor demand curve. LO-3

8-24 Each (identical) worker is worth no more than the MRP of the last worker hired, and all workers are paid the same wage rate. The Firm’s Demand for Labor LO-3

8-25 Figure 8.4

8-26 Market Equilibrium The market demand for labor depends on: –The number of employers. –The Marginal Revenue Product of labor in each firm and the industry. The market supply of labor depends on: –The number of workers. –Each workers’ willingness to work at alternative wage rates. LO-3

8-27 Equilibrium Wage The intersection of the market supply and demand curves establishes the equilibrium wage. It is the only wage where the quantity of labor supplied equals the quantity of labor demanded. LO-3

8-28 Equilibrium Employment The only sustainable level of employment in a market given the prevailing supply and demand conditions. LO-3

8-29 Changing Market Outcomes Changing market conditions alter wages and employment levels. –Changes in labor productivity –Changes in the price of the good produced by labor –Legal minimum wages –Labor unions LO-5

8-30 Changes in Productivity If labor productivity (MPP) rises, wages can increase without sacrificing jobs. Increased productivity implies that workers can get higher wages without sacrificing jobs or more employment without lowering wages. LO-5

8-31 Changes in Price Marginal revenue product reflects the interaction of productivity and product prices. MRP depends on the market price of the product being produced. MRP shifts to the right if the market price of a product increases. LO-5

8-32 Legal Minimum Wages Minimum wages are mandated by Congress. Effects of a minimum wage: –Reduces the quantity of labor demanded. –Increases the quantity of labor supplied. –Creates a market surplus. –Some workers end up better off while others end up worse off (a tradeoff). LO-4

8-33 Figure 8.7

8-34 Labor Unions Workers may take collective action to get higher wages. They form a labor union and bargain collectively with employers. A union must exclude some workers from the market to get and maintain an above-equilibrium wage. LO-5

8-35 Unions decrease wages in non-union industries. –Excluded workers increase non-union labor supply. Labor Unions LO-5

8-36 Capping CEO Pay Critics of CEO (Chief Executive Officer) pay levels want to reduce their pay and revise the process used to set their pay levels. The Obama Administration created a Pay Czar position to govern salaries and benefits given to CEOs of firms bailed out during the economic problems. LO-5

8-37 Unmeasured MRP Measuring the MRP of a CEO is difficult because a CEO’s contributions are not easy to quantify. CEO salaries are higher because they reflect their opportunity wage: –Opportunity wage is the highest wage an individual would earn in his or her best alternative job. LO-5

End of Chapter 8