1. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 1 Chapter 22 “Market for Labor and Other Inputs”

2. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 2 Learning Objectives 1.State why the demand for labor is derived demand. 2.Use labor demand and supply curves to show how an equilibrium market wage rate is determined. 3.Discuss the characteristics of a purely competitive labor market and the wage- taking firm. 4.Ascertain the profit maximizing employment of labor for a wage taking firm. 1.State why the demand for labor is derived demand. 2.Use labor demand and supply curves to show how an equilibrium market wage rate is determined. 3.Discuss the characteristics of a purely competitive labor market and the wage- taking firm. 4.Ascertain the profit maximizing employment of labor for a wage taking firm.

3. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 3 Learning Objectives 5.Describe labor markets in which market power over the wage rate is present. 6.Relate the similarities between the employment of labor and the employment of other resources. 7.Explain why the employment of labor has become increasingly global in scope. 5.Describe labor markets in which market power over the wage rate is present. 6.Relate the similarities between the employment of labor and the employment of other resources. 7.Explain why the employment of labor has become increasingly global in scope.

4. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 4 22.1 THE MARKET DEMAND FOR LABOR Unlike the product market, in which firms are sellers and households are buyers, in the labor market, individuals sell their labor services (suppliers) to firms (demanders).Unlike the product market, in which firms are sellers and households are buyers, in the labor market, individuals sell their labor services (suppliers) to firms (demanders). The market price of labor services is the wage rate, the amount the employee is paid per hour.The market price of labor services is the wage rate, the amount the employee is paid per hour. Unlike the product market, in which firms are sellers and households are buyers, in the labor market, individuals sell their labor services (suppliers) to firms (demanders).Unlike the product market, in which firms are sellers and households are buyers, in the labor market, individuals sell their labor services (suppliers) to firms (demanders). The market price of labor services is the wage rate, the amount the employee is paid per hour.The market price of labor services is the wage rate, the amount the employee is paid per hour.

5. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 5 The Market Demand for Labor A Derived Demand oLabor demand slopes downward, meaning that…. oHigher wage rates decrease the quantity of labor demanded. oWhereas, lower wage rates increase the quantity of labor demanded. oLabor demand slopes downward, meaning that…. oHigher wage rates decrease the quantity of labor demanded. oWhereas, lower wage rates increase the quantity of labor demanded.

6. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 6 Labor Demand Quantity of Labor (hours per day) Wage Rate ($) Market Demand $9 3,000 $7 4,000 The lower the wage, rate, the larger the quantity of labor demanded.

7. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 7 Variation in the Demand for Labor oOccupation: occupational labor demands are distinct for dissimilar because labor occupations require specific human capital. oGeography: labor demand varies geographically because of different economic conditions in towns and regions. oIndustry: various industries compete for the same pool of workers. oOccupation: occupational labor demands are distinct for dissimilar because labor occupations require specific human capital. oGeography: labor demand varies geographically because of different economic conditions in towns and regions. oIndustry: various industries compete for the same pool of workers. Economist often study the labor demands In three distinct labor market segments.

8. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 8 Derived Demand Labor demand is a derived demand, which means that the demand for labor exists only because there is a demand for labor’s output.

9. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 9 Labor Demand Quantity of Labor (hours per day) Wage Rate ($) 4,000 $7 $9 5,000 Market Supply The higher the wage, rate, the larger the quantity of labor supplied.

10. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 10  Workers exchange their services to the labor market in exchange for the wages and salaries that they can earn.  The market supply curve of labor shows the quantity of labor supplied at various wage rates.  The positive slope of the market supply of labor tells us that higher wage rates attract a greater quantity of labor supplied.  Labor supply can vary by occupation, area, and industry.  Workers exchange their services to the labor market in exchange for the wages and salaries that they can earn.  The market supply curve of labor shows the quantity of labor supplied at various wage rates.  The positive slope of the market supply of labor tells us that higher wage rates attract a greater quantity of labor supplied.  Labor supply can vary by occupation, area, and industry. Market for Labor

11. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 11 Quantity of Labor (hours per day) Wage Rate ($) 3,0005,000 Market Supply At $9, there would be a 2,000-hour surplus of labor. Market Demand $9 $7 4,000 Labor market equilibrium Market for Labor

12. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 12 22.2 THE EQUILIBRIUM WAGE RATE 4A purely competitive labor market exist when the demand for labor and the supply of labor establish an equilibrium wage rate and quantity of labor. 4The characteristics of a purely competitive labor market are…. 4Many buyers and sellers of labor services 4Services of labor are homogeneous 4Market is free of barriers to entry and exit 4A purely competitive labor market exist when the demand for labor and the supply of labor establish an equilibrium wage rate and quantity of labor. 4The characteristics of a purely competitive labor market are…. 4Many buyers and sellers of labor services 4Services of labor are homogeneous 4Market is free of barriers to entry and exit

13. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 13 A Purely Competitive Labor Market 4In a purely competitive employers are wage takers. 4They can employ as much or as little labor as they desire, at the market wage rate. 4No one employer can influence the wage rate, so as wage takers, they have no market power over wages. 4For a wage taking firm, the wage rate is supply curve of labor to the firm. 4In a purely competitive employers are wage takers. 4They can employ as much or as little labor as they desire, at the market wage rate. 4No one employer can influence the wage rate, so as wage takers, they have no market power over wages. 4For a wage taking firm, the wage rate is supply curve of labor to the firm.

14. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 14 Competitive Labor Markets Market Demand Market Supply Market Wage Total market labor Labor (thousands)Labor (single units) Dollars Labor Market Firm Firm’s Demand Labor Supply to Firm Labor to Firm Dollars The interaction of labor demand and labor supply sets the market wage. The horizontal supply curve of labor to an employer indicates the employer is a wage taker in a purely competitive labor market. The firm’s demand for labor will determine the quantity of labor it hires at that wage.

15. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 15 A Firm’s Employment of Labor The value to the firm of any worker’s labor, pat is a revenue resulting the from that worker’s marginal product. The revenue from the output an additional worker adds to the firm’s total output is termed the marginal revenue product of labor. Marginal revenue product = Change in total revenue/Change in labor Or Marginal revenue x Marginal product. The value to the firm of any worker’s labor, pat is a revenue resulting the from that worker’s marginal product. The revenue from the output an additional worker adds to the firm’s total output is termed the marginal revenue product of labor. Marginal revenue product = Change in total revenue/Change in labor Or Marginal revenue x Marginal product.

16. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 16 A Firm’s Employment of Labor 25 20 15 10 5 0 0 1 2 3 4 5 6 Marginal revenue product Marginal revenue product is downward sloping for a price-taking firm due to the decrease in the marginal product of labor. Marginal revenue product = (change in total revenue ÷ change in labor ) = (marginal product x marginal revenue)

17. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 17 Marginal Revenue Product A Price Taker 60 50 40 30 20 10 0 -10 -20 -30 -40 0 1 2 3 4 5 6 Quantity of Labor Marginal revenue product Marginal revenue product slopes downward for a price maker for TWO reasons. #1 the marginal product of labor decreases as the quantity of labor is increased. #2 price must be decreased in order to sell the additional output that is produced when more labor is employed. The decrease in price, which results in less marginal revenue, also contributes to the decrease in marginal revenue product. $

18. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 18 Hiring Labor Marginal cost of labor: The additional cost of employing one more unit of labor.  Marginal cost of labor: The additional cost of employing one more unit of labor. Marginal cost of labor = Change in total cost/Change in quantity of labor Change in total cost/Change in quantity of labor  The market wage rate equals the marginal cost of labor for a wage taker.  Profit-maximizing firms will hire to the point where (Hiring Rule):  MC L = MRP L Marginal cost of labor: The additional cost of employing one more unit of labor.  Marginal cost of labor: The additional cost of employing one more unit of labor. Marginal cost of labor = Change in total cost/Change in quantity of labor Change in total cost/Change in quantity of labor  The market wage rate equals the marginal cost of labor for a wage taker.  Profit-maximizing firms will hire to the point where (Hiring Rule):  MC L = MRP L

19. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 19 =supply of labor to the firm = firm’s demand for firm Marginal Revenue Product and the Demand for Labor Dollars Quantity of Labor 3 16 (= market wage) Marginal Revenue Product Marginal Cost of Labor The quantity of labor employed by a profit-maximizing firm is the amount for which marginal revenue product = marginal cost of labor

20. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 20 Employment of Labor and the Output Market Dollars Quantity of Labor 3 16 (= market wage) Marginal Revenue Product for price taker Marginal Cost of Labor 2 Marginal Revenue Product for price maker Both firms are wage takers, as indicated by the horizontal supply curve of labor. The greater the ability of the firm to set price in its output market, the steeper will be its marginal revenue product curve. A price taker will employ more labor than a price maker, other things equal.

21. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 21 22.3 MARKET POWER IN THE LABOR MARKET Monopsony - only one employer of labor  Monopsony - only one employer of labor  Monopoly - only one seller of labor, a labor union  Bilateral monopoly - only one employer and only one seller of labor Monopsony - only one employer of labor  Monopsony - only one employer of labor  Monopoly - only one seller of labor, a labor union  Bilateral monopoly - only one employer and only one seller of labor

22. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 22 A Monopsony Firm  The monopsonist makes its hiring decisions in the following two steps.  It employs the amount of labor for which the marginal cost of labor equals the marginal revenue product.  It pays the lowest possible wage rate for that labor.  The monopsonist makes its hiring decisions in the following two steps.  It employs the amount of labor for which the marginal cost of labor equals the marginal revenue product.  It pays the lowest possible wage rate for that labor.

23. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 23 Monopsony Firm and Upward- Sloping Supply of Labor Curve Dollars Labor 10 Marginal Revenue Product Marginal Cost of Labor Supply of Labor 9 8 34 Step 2 Step 1

24. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 24 Monopoly – A Sole Supplier of Labor Services Monopolies in the output market possess market power because they can raise prices above the level indicated by the intersection of supply and demand.Monopolies in the output market possess market power because they can raise prices above the level indicated by the intersection of supply and demand. Labor unions are like monopolies in that they are able to command a higher price for their output by….Labor unions are like monopolies in that they are able to command a higher price for their output by…. –Reducing the supply of labor. –Eliminating competition for jobs among workers. –Monopolizing the supply of labor services.

25. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 25 Bilateral Monopoly oA bilateral monopoly occurs when a monopsony buyer of labor’s services must obtain those services from a monopoly seller, such as a labor union. oUnder a bilateral monopoly, the wage rate depends on bargaining power… oDepending upon whether the employer or representative of the employee bargains more effectively, the wage result can be above or below equilibrium. oA bilateral monopoly occurs when a monopsony buyer of labor’s services must obtain those services from a monopoly seller, such as a labor union. oUnder a bilateral monopoly, the wage rate depends on bargaining power… oDepending upon whether the employer or representative of the employee bargains more effectively, the wage result can be above or below equilibrium.

26. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 26 22.4 THE EMPLOYMENT OF OTHER INPUTS The marginal revenue product can be calculated for any input, as can its marginal cost. The marginal revenue product can be calculated for any input, as can its marginal cost. The rule for the profit-maximizing amount of labor applies to other inputs: The rule for the profit-maximizing amount of labor applies to other inputs: Employ an input up to the point where its marginal revenue equals its marginal cost. Employ an input up to the point where its marginal revenue equals its marginal cost. The marginal revenue product can be calculated for any input, as can its marginal cost. The marginal revenue product can be calculated for any input, as can its marginal cost. The rule for the profit-maximizing amount of labor applies to other inputs: The rule for the profit-maximizing amount of labor applies to other inputs: Employ an input up to the point where its marginal revenue equals its marginal cost. Employ an input up to the point where its marginal revenue equals its marginal cost.

27. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 27 The Marginal Revenue Product of Capital 12 10 8 6 4 2 0 0 1 2 3 4 5 6 Quantity of capital $ Marginal cost of capital Marginal product revenue The marginal revenue product of capital is computed in the same way as marginal revenue product of labor. But in this case, the quantity of capital varies and the other inputs are held constant. A firm employs capital to the point where the marginal revenue product from capital equals the marginal cost of capital.

28. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 28 22.5 EXPLORE & APPLY Internationalizing the Work Force A portion of U.S. imports are made by foreign firms employing foreign workers, but some imports are made by U.S. based multinational firms. Workforce diversity is the norm in many countries. Some U.S. employers hire foreign born workers because they claim that they will do the jobs that American workers will not do. Self employed entrepreneurs who are foreign born add add another dimension to the Internalization of the work force. A portion of U.S. imports are made by foreign firms employing foreign workers, but some imports are made by U.S. based multinational firms. Workforce diversity is the norm in many countries. Some U.S. employers hire foreign born workers because they claim that they will do the jobs that American workers will not do. Self employed entrepreneurs who are foreign born add add another dimension to the Internalization of the work force.

29. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 29 Internationalizing the Work Force U.S. EMPLOYMENT-BASED IMMIGRATION YEAR NUMBER OF IMMIGRANTS 1990 58,192 1991 59,525 1992 116,198 1993 147,012 1994 123,291 1995 85,336 1996 117,499 1997 90,607 1998 77,517 1999 56,817 2000 107,024

30. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 30 Terms along the Way  derived demand  purely competitive labor market  marginal revenue product of labor  marginal cost of labor  monopsony  monopoly  bilateral monopoly  derived demand  purely competitive labor market  marginal revenue product of labor  marginal cost of labor  monopsony  monopoly  bilateral monopoly

31. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 31 Test Yourself 1.A labor market demand curve is a.downward sloping like the demand curve for goods and services. b.upward sloping. c.horizontal. d.vertical. 1.A labor market demand curve is a.downward sloping like the demand curve for goods and services. b.upward sloping. c.horizontal. d.vertical.

32. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 32 Test Yourself 2.Which defines the marginal revenue product of labor? a.Change in total revenue/change in output. b.Change in total revenue/change in labor. c.Change in marginal revenue/change in the wage rate. d.Change in output/change in input. 2.Which defines the marginal revenue product of labor? a.Change in total revenue/change in output. b.Change in total revenue/change in labor. c.Change in marginal revenue/change in the wage rate. d.Change in output/change in input.

33. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 33 Test Yourself 3.A marginal revenue product curve shows a.a firm’s labor market supply. b.a firm’s labor demand. c.the market supply. d.the marginal cost of labor. 3.A marginal revenue product curve shows a.a firm’s labor market supply. b.a firm’s labor demand. c.the market supply. d.the marginal cost of labor.

34. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 34 Test Yourself 4.The marginal cost of labor equals a.the change in total cost/the change in output. b.change in total cost/change in labor. c.change in total cost/change in the wage rate. d.change in output/change in labor. 4.The marginal cost of labor equals a.the change in total cost/the change in output. b.change in total cost/change in labor. c.change in total cost/change in the wage rate. d.change in output/change in labor.

35. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 35 Test Yourself 5.The marginal cost of labor for a wage- taking firm ________ as it hires more labor. a.increases. b.decreases. c.remains constant. d.first increases, then decreases. 5.The marginal cost of labor for a wage- taking firm ________ as it hires more labor. a.increases. b.decreases. c.remains constant. d.first increases, then decreases.

36. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 36 Test Yourself 6.In a purely competitive labor market the market wage is determined by a.the demand for labor. b.the supply of labor c.both the demand and supply of labor. d.neither the demand nor supply of labor. 6.In a purely competitive labor market the market wage is determined by a.the demand for labor. b.the supply of labor c.both the demand and supply of labor. d.neither the demand nor supply of labor.

37. ©2004 Prentice Hall Publishing Ayers/Collinge, 1/e 37 The End! Next Chapter 23 “Earnings and Income Distribution"