1. The Demand and Supply of Resources 14

2. Big Questions 1.What are the factors of production? 2.Where does the demand for labor come from? 3.Where does the supply of labor come from? 4.What are the determinants of demand and supply in the labor market? 5.What role do land and capital play in production?

3. The Factors of Production Factors of production –Inputs used in the production of goods and services –Land—physical location –Labor—employees –Capital—equipment, buildings, machinery Derived demand –Demand for inputs used in the production process –Demand for inputs is derived from the demand for the output those inputs produce. Demand for labor will increase if the demand for the good the labor produces increases.

4. Demand for Labor –Individuals are suppliers of labors –Firms are demanders (purchasers) of labor –The price of labor is the wage rate –A supply-demand analysis is still useful for determining the amount of labor traded and the price of labor

5. Demand for Labor Marginal product of labor (MPL) –The change in output associated with hiring one additional worker

6. Demand for Labor Value of the Marginal Product (VMP) Also known as Marginal Revenue Product (MRP) –MPL multiplied by the price of the output it produces –Sometimes called marginal revenue product –Think of this as the total revenue generated by the worker

7. Deciding How Many Laborers to Hire

8. Value of the Marginal Product

9. Changes in the Demand for Labor Changes in technology and Pproductivity –New low-cost technology can substitute for workers –More technology will decrease the demand for labor

10. Changes in the Demand for Labor Technology replacing labor: good or bad? Short run –May seem bad if workers lose jobs Long run –Society benefits! Production is cheaper and safer. Workers will hopefully find other jobs, allowing production in other sectors to increase.

11. The Labor Demand Curve

12. The Supply of Labor The labor supply curve shows the relationship between the price of labor (wage rate) and the quantity supplied of labor Labor-leisure trade-off –The opportunity cost of working is giving up leisure –The opportunity cost of leisure is giving up earnings from work –However, income is often required to enjoy leisure

13. Labor-Leisure Trade-off If wages rise, what happens? People may be willing to work more hours –The opportunity cost of leisure is now higher –This is called the substitution effect—when wages increase, you substitute in labor and substitute out leisure People may be willing to work less hours –Suppose you just need $1,000 per week to be satisfied. With a pay raise, you could earn this amount working fewer hours, and enjoy more leisure hours –This is called the income effect. You use your extra income to purchase more leisure (a normal good).

14. Labor-Leisure Trade-off What is the slope of the labor supply curve? Do people work more or less when wages increase? At lower wages –The substitution effect usually dominates. Higher wages lead to more working hours as leisure becomes more costly. At high wage levels –The income effect may dominate. This can actually lead to a backward-bending labor supply curve. May not happen with most people and most wages.

15. The Labor Supply Curve

16. Economics in A Day without a Mexican Immigration and labor markets What would happen if the supply of labor decreased because immigrants disappeared?

17. Labor Market Equilibrium Surplus of labor –Qs > Qd. This is unemployment! Shortage of labor –Qd > Qs. The number of workers firms want to hire is greater than the number willing to work

18. Labor Market Equilibrium

19. Changes in Equilibrium

21. Outsourcing –The shifting of jobs from within the firm to an outside company. –Why? An outside company may have cheaper labor. This is especially true for overseas companies. –May be done locally or globally

22. Outsourcing Globally Global results of outsourcing –Ability to outsource increases pool of workers –Decreases wages for domestic workers –Unemployment in the industry rises Outsourcing winners –Workers in country with increased labor demand –Firm that is hiring cheaper labor Outsourcing losers –Workers who may have lost their job or experienced wage reductions

23. Outsourcing in the Long Run In the short run, it appears that outsourcing can be painful for some individuals Outsourcing in the long run –Allows specialization –Increases efficiency –Lowers costs (and prices) –Helps firms and consumers Are workers helped? –Outsourcing relocates jobs to efficient workers –Increases labor demand in the long run

24. Economics in Outsourced This great clip shows what can happen when jobs can be outsourced to use cheaper labor Some jobs may be lost, but prices will fall due to lower costs

25. Monopsony –A market situation in which there is only one buyer –Contrast with monopoly, where there is one seller Monopsony results –Monopsonist has market power –Pushes prices down –Monopsonist labor buyer will push wages low –(If people only have one choice of employment, that employer will pay low wages)

26. Monopsony and the WNBA NBA –Teams are all owned separately –Many competing purchasers of NBA labor –Higher wages –Average salary of NBA player in 2011 was $5.15 million WNBA –At first, teams are all owned by the NBA –One purchaser of WNBA labor (monopsony) –Lower wages –Salary cap for WNBA TEAM in 2013 was $869,000

27. The Market for Land Supply of land is fixed, so supply is perfectly inelastic (vertical) –Increases in demand result in price increases, but not quantity increases

28. The Market for Land Economic rent –The difference between what a factor of production earns and its next-best alternative –Ability of investors to beat their opportunity costs Economic rent example –Apartment near campus has higher price than apartment 10 miles from campus –Higher demand for living near campus

29. Supply and Demand for Land

30. The Market for Capital Demand for capital –Determined by the value of marginal product of capital –Downward sloping— marginal product declines with increased amounts of capital employed

31. When to Use More Labor, Land, or Capital A firm can decide the best of use of its resources by comparing the VMP per dollar spent on each of the three inputs –If the firm is going to spend more on inputs, it wants to spend money on the most productive input –The firm wants to maximize revenue per dollar spent

32. Land, Labor, and Capital Example

33. Summary The demand for each factor of production is a derived demand that stems from a firm’s desire to supply a good in another market. Labor demand is contingent upon the value of the marginal product that is produced, and the value of the marginal product is equivalent to the firm’s labor demand curve. The supply of labor depends on the wage rate that is offered, and also on each person’s goals and other opportunities. At high-wage levels the income effect may become larger than the substitution effect and cause the supply curve to bend backward.

34. Summary Labor markets reconcile the forces of demand and supply into a wage signal that conveys information to both sides of the market At wages above the equilibrium, the supply of workers exceeds the demand for labor. This results in a surplus of available workers. At wages below the equilibrium, the demand for labor exceeds the available supply of workers and a shortage develops

35. Summary Outsourcing –There is no definitive result for outsourcing of labor in the short run. –In the long run, outsourcing moves jobs to workers who are more productive, and thus increases the overall productivity of workers everywhere. A monopsonist in the labor market is able to leverage market power by paying workers less. Economic rent is the difference between what a factor of production earns and what it could earn in the next-best alternative.

36. Practice What You Know The demand for labor will increase if A. The wage rate decreases B. If there is a decrease in the number of firms hiring C. The demand for the product produced by the labor increases D. If labor becomes less productive

37. Practice What You Know A firm will keep hiring workers as long as the wages paid to workers is less than the A. Wages the workers could earn elsewhere B. Price of the goods being produced C. Marginal Product of Labor (MPL) D. Value of Marginal Product (VMP)

38. Practice What You Know What could lead to a backward-bending labor supply curve? A.The income effect dominating the substitution effect at high wages B.The substitution effect dominating the income effect at high wages C.Laborers always working more hours when wages are higher D.Firms choosing to hire less workers when market wages are higher

39. Practice What You Know What is true about outsourcing? A. Outsourcing generally helps the firm by raising the price of the goods sold B. Outsourcing may decrease wages for domestic workers C. Outsourcing will decrease the overall supply of workers that a firm can employ D. There are no significant economic trade-offs with regards to outsourcing

40. Practice What You Know What is true about monopsony? A. Unlike a monopolist, a monopsonist has no market power B. Monopsony exists when there is one seller of a good, service, or resource C. If a market becomes monopsonized, there will be an increase in the demand for labor. D. A monopsonist has the incentive to use market power to lower the price of a resource