Chapter Thirteen Labor Markets

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.1: Labor Demand Curve and Labor Supply Curve

Copyright © by Houghton Mifflin Company, Inc. All rights reserved The Recent Wage Boom Must consider –What’s included in measure of pay –Is inflation distorting the measure? –Interval of time over which workers receive pay Fringe benefits: Compensation that a worker receives excluding direct money payments for time worked: insurance, retirement benefits, vacation time, and maternity and sick leave –Now about 28%; In 1960 only about 8% –When referring to wage, include fringe benefits

Copyright © by Houghton Mifflin Company, Inc. All rights reserved The Recent Wage Boom Real wage: The wage or price of labor adjusted for inflation; in contrast, nominal wage has not been adjusted for inflation. Consumer Price Index (CPI): Gives the price of a fixed collection, or market basket, of goods and services each year compared to some base year. –1983: 1.00 –2000: 1.70 –Wage increase of $10 to $19 in 83 to ’00. (10/1.00 and 19/1.70) suggests 12% increase. Should use real wage for comparison.

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Time Interval Weekly pay: How much do you earn in one week Hourly pay: How much do you earn in one hour Hours worked per week is usually 40

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.2: The Average Hourly Real Wage

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Wage Trends Mid 90’s it started to rapidly increase Wage dispersions: Laborer vs. College Grad –Used to earn 45% more, now it’s 65% more Men vs. Women –Used to earn 60 cents/dollar, now it’s over 70 cents/dollar

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Demand Labor Market: The market in which individuals supply their labor time to firms in exchange for wages and salaries. Labor Demand: The relationship between the quantity of labor demanded by firms and the wage. –Based on profit maximization Labor Supply: The relationship between the quantity of labor supplied by individuals and the wage. Derived Demand: Demand for an input derived from the demand for the product produced with that input –Derived from goods that the firm produces with the labor

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Demand If employing another worker increases the firm’s profits, then the firm will employ that worker. –Similar to MR = MC We are assuming a competitive market, where each firm is a price-taker Must also assume any firm must take the wage given in the labor market –No one firm can affect the labor market wage

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Input and MRP at a Competitive Firm LQMPPTRMRP

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Demand Marginal Product of Labor: The change in production due to a one-unit increase in labor input. Marginal Revenue Product of Labor: The change in total revenue due to a one-unit increase in labor input. Firms will hire workers up to the point where the marginal revenue product of labor equals the wage –MRP = W Change in W is different point on curve –If P or MP changes, it will shift the Demand curve

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.3: Determining a Firm's Demand Curve for Labor

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Input and MR for a firm with power to affect the market price LQMPPTRMRP

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.4: Summing Firms' Demands to Get the Labor Market Demand Curve

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Supply Alternative to work = Leisure –Price of leisure is opportunity cost of not working Substitution Effect = The higher the wage, the more attractive work will seem compared to the alternatives (leisure) –Quantity of labor supplied increases when wage rises Income Effect = The effect of the price change on your real income –Quantity of labor supplied tends to decrease when the wage rises

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.5: Three Labor Supply Curves

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Shape of the supply curve Backward-bending labor supply curve: The situation in which the income effect outweighs the substitution effect of an increase in the wage at higher levels of income, causing the labor supply curve to bend back and take on a negative slope

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.6: Backward-Bending Labor Supply Curve

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Work vs. Alternative Human Capital: A person’s accumulated knowledge and skills On-the-job training: The building of the skills of a firm’s employees while they work for the firm

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.7: Higher Education and Economic Success

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Explaining Wage Differences Labor Market Equilibrium: The situation in which the quantity supplied of labor equals the quantity demanded of labor –W = MRP Labor Productivity: Output per hour of work

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Copyright © by Houghton Mifflin Company, Inc. All rights reserved Wage Dispersion and Productivity Productivity differences are an explanation for the wage gap between workers with a high school diploma and those who are college educated. –Could be from actual knowledge gained or the screening process Compensating wage differentials: A difference in wages for people with similar skills based on some characteristic of the job, such as riskiness, discomfort, or convenience of the time schedule. –Ex: Deep-sea salvage diver vs. lifeguard; Day shift vs. Night shift; Economist vs. Economics Teacher

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Discrimination Wage gaps –Women: 1950 = $.50Present = $.70 –Blacks: 1950 = $.60Present = $.70 –If can’t be explained by differences in marginal product, then we assume it’s discrimination. In other words, discrimination is not hiring or paying someone less even though their marginal product is the same –Results in a leftward shift in the labor demand curve for workers who are discriminated against –Discrimination is minimized in a competitive market, workers will go elsewhere

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.9: Discrimination in the Labor Market

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Government Comparable worth proposals: laws that have been proposed requiring employers pay the same wage to workers with comparable skills –Problem with compensating wage differentials, could lead to floors and ceilings Minimum wage legislation: Sets a price floor for the price of labor. –Looks like (from the model) that minimum wage hurts unskilled laborers, causing unemployment. Has virtually no effect on skilled laborers

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.10: Effects of a Minimum Wage

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Wage Payments and Incentives Wages usually reflects marginal revenue product over a longer period. Piece-rate system: A system by which workers are paid a specific amount per unit they produce. –Wage does not provide enough incentive or manager can’t supervise closely. Common in apparel and agriculture Deferred payment contract: An agreement between a worker and an employer whereby the worker is paid less than the marginal revenue product when young, and subsequently paid more than the marginal revenue product when old. –Ex: Lawyers and Accountants and Retirement Packages

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Labor Unions Labor Unions: A coalition of workers, organized to improve the wages and working conditions of the members. –Ex: UAW and UFW –Industrial unions: A union organized with a given industry, whose members come from a variety of occupations. –Craft unions: A union organized to represent a single occupation, whose members come from a variety of industries –AFL and CIO split then reconciled –13.5% unionized now, compared to 25% in 1950’s

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Union/Nonunion Wage Differentials Union wages are about 15 percent higher than nonunion wages, even though workers’ skills are the same. Unions might be able to raise wages by restricting membership, shifting supply to the left Unions might get paid more because they might increase their marginal product

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Figure 13.11: The Effect of Unions on Wages

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Monopsony and Bilateral Monopoly Firms may also have market power to affect the wage Monopsony: A situation in which there is a single buyer of a particular good or service in a given market. –By reducing its demand, a monopsony can reduce the price in the market. Lower point on the curve reduces both price and quantity.

Copyright © by Houghton Mifflin Company, Inc. All rights reserved Bilateral Monopoly Bilateral Monopoly: The situation in which there is one buyer and one seller in a market. –A labor market with one labor union deciding the labor supply and one firm deciding the labor demand