1. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-1 Extension Chapter 3 The pricing of economic resources

2. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-2 Learning objectives 1.Understand the forces underlying the general level of wage rates in Australia. 2.See how wage rates are determined in particular labour markets by presenting several representative labour market models. 3.Analyse the impact of unions on the structure and level of wages. 4.Explain wage differentials. 5.Provide an analysis of resource pricing that includes non-wage income: rent, interest and profits. 6.Develop an understanding of the pattern of all income shares in Australia, including wages, and their current and historical significance.

3. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-3 Wages in particular labour markets Wage rates are defined as: –the price paid for the use of labour. Discussion in this chapter relates to real wages not nominal wages since we assume product prices are constant (unless otherwise indicated).

4. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-4 Wage determination: monopsony model Monopsony is a market in which there is only one buyer of a resource. The firm dominates employment of a particular type of worker. The labour type is relatively immobile or inflexible. The firm is a ‘wage maker’.

5. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-5 Wage determination: monopsony model (cont.) Characteristics –Up-sloping labour supply curve –MRC > wage rate Equilibrium –Up to point where MRC = MRP Results –Lower wages, employment levels and output

6. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-6 Wage rate (dollars) WmWm MRP MRC S Q Monopsonistic labour market WcWc QcQc a QmQm b C Quantity of labour

7. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-7 Wage determination: monopsony model (cont.) Complication –Monopoly power in product market  Restrictive firm: resource demand curve is depressed even lower wages, labour volumes.  Progressive firm: resource demand curve shifts to the right increases labour volumes.

8. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-8 Supply imperfections: some union models Unions –Basic objective: increase wage rates. How? Three alternative models –Increasing the demand for labour –Exclusive or craft unionism –Inclusive or industrial unionism

9. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-9 D2D2 Demand-enhancement union model Wage rate (dollars) Quantity of labour D W1W1 Q1Q1 S Q2Q2 W2W2 Q

10. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-10 Exclusive or craft union model Wage rate (dollars) Quantity of labour D W1W1 Q1Q1 S1S1 S2S2 W2W2 Q2Q2 Q

11. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-11 Inclusive unionism model Wage rate (dollars) S Quantity of labour D WcWc QcQc WuWu b a D QuQu Q

12. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-12 Wage determination: bilateral monopoly model A market in which there is a single seller and a single buyer of labour Big industry and big union Effect on wages is indeterminate and depends on the power of the respective parties Desirability

13. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-13 WuWu Qu=QmQu=Qm Wage rate (dollars) MRP Quantity of labour Bilateral monopoly model WcWc QcQc S WmWm MRC Q

14. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-14 Wage differentials: causes Heterogeneity of workforce –Ability –Education –Training Variety in attractiveness of jobs Market imperfections Non-competing groups –Ability –Investing in human capital: education and training

15. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-15 Wage differentials: causes (cont.) Compensating differences Labour market imperfections –Geographical immobilities –Institutional immobilities –Sociological immobilities and discrimination

16. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-16 Economic rent Economists use the term ‘rent’ in a narrower sense than its common meaning. Economic rent is the price paid for the use of land and other natural resources that are completely fixed in total supply.

17. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-17 Land rent (dollars) Hectares of land R1R1 S S D1D1 D3D3 R3R3 0 Q D2D2 R2R2 Determination of land rent D4D4

18. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-18 Land rent Supply of land is perfectly inelastic Demand –Sole active determinant of land rent –‘Derived demand’ –Down-sloping  Law of diminishing returns  Product price must be decreased to sell additional units

19. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-19 Perfectly inelastic supply Why? –No production costs associated with land. –Economy has a finite supply of land. –Variability in the usability of land is a very small fraction of the total amount of land.

20. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-20 Land rent is a surplus Does not serve as an incentive A payment that is not necessary to ensure that land will be available to the economy as a whole.

21. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-21 Productivity differences Different properties will differ in their productivities  Soil fertilities  Mineral wealth  Climatic factors  Locational factors Different grades of land can be represented by differing demand curves. Alternative uses and costs of land

22. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-22 Interest The price paid for the use of money. Typically the amount that must be paid for the use of one dollar for one year. Measured as a percentage. Money is not a resource. Money is not in itself useful.

23. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-23 Interest rate determination The total demand for money has two components: –Transactions demand  The demand for money as a medium of exchange –Asset demand  Demand for money as a financial asset and store of wealth Total demand for money is the horizontal summation of transaction and asset demand The demand for money curve is down-sloping.

24. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-24 Interest rate determination (cont.) Supply of money Has three major components –Currency –Current deposits in banks –Non-current deposits in banks The money supply curve is a vertical line. Investment decision –All projects whose expected rate of net profit exceeds the equilibrium interest rate will be undertaken. Nominal interest rate: current dollars Real interest rate: adjusted for inflation –Important in making investment decisions

25. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-25 Interest rate determination (cont.) o 10 8 6 4 2 50 100 150 200 250 300 Rate of interest (per cent) Amount of money demanded and supplied ($ billion) SmSm DmDm Ie

26. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-26 Range of interest rates Commercial, mortgage rates, etc. Reasons for interest rate differentials –Risk –Maturity or length of loan –Size of loan Pure rate of interest –Overall interest rate in the economy –Best approximated by interest paid on federal government long-term bonds

27. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-27 Role of interest rates Affect level of investment goods production –Change in interest rates results in change in investment demand. Affect composition of investment goods production –Interest rates allocate the available supply of money to those projects that are expected to result in the highest levels of profit. Real rather than nominal interest rate critical for investment decisions

28. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-28 Economic profits Various terms used to distinguish different meanings of ‘profits’: –economic profits or pure profits –accounting profits –explicit costs –implicit costs.

29. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-29 Role of the entrepreneur The role of the entrepreneur is to: –take initiative to combine other resources in production –make non-routine decisions –introduce innovation in the form of new products or processes –take economic risks. Normal profit: the minimum return necessary to retain the entrepreneur in a production line

30. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-30 Sources of economic profits Economic profits: –are not a cost –accrue to the entrepreneur –potential sources are  uninsured risks (dynamic and uncertain)  innovations  monopoly power and profits.

31. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-31 Functions of profits Energise the economy Stimulate innovation and output Encourage investment Allocate resources amongst alternatives

32. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-32 Income shares Largest share of national income accrue to labour Labour’s relative share has increased over time in Australia. Labour’s share is around 65% once operating surpluses of small business owners are included. Capitalist share about 25–30% of national income

33. Copyright © 2012 McGraw-Hill Australia Pty Ltd PowerPoint presentation to accompany Economic Principles 3e, by Jackson, McIver, Wilson & Bajada Slides prepared by George Bredon E3-33 Next chapter Extension Chapter 4 Aggregate expenditures model and multipliers