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Lecture 11 - Perfect Labour Markets

This document discusses perfect labor markets. It covers: 1) The factors of production are labor, capital, and land. Labor is the only variable input in the short run. 2) The supply of labor depends on individual preferences for work vs. leisure and the number of qualified workers. The market labor supply curve is usually upward sloping. 3) Firms demand labor up until the point where the marginal revenue product of the last worker equals the wage rate. In perfect competition, firms are price takers for both inputs and outputs.

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Elianne Adeniyi
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48 views4 pages

Lecture 11 - Perfect Labour Markets

This document discusses perfect labor markets. It covers: 1) The factors of production are labor, capital, and land. Labor is the only variable input in the short run. 2) The supply of labor depends on individual preferences for work vs. leisure and the number of qualified workers. The market labor supply curve is usually upward sloping. 3) Firms demand labor up until the point where the marginal revenue product of the last worker equals the wage rate. In perfect competition, firms are price takers for both inputs and outputs.

Uploaded by

Elianne Adeniyi
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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Lecture 11- Perfect labour markets:

What are the factors of production?


 Labour: people available for employment to produce the output in the economy
Units: number of people
Hours of work
Costs to firm: wage/salary
 Capital: machines and equipment used by the labour, required to produce the
output
Units: numbers of machines, tools or factories
Costs to firm: rent/ price
 Land: the site of production (commonly merged with the capital)

The only variable input in the short run is labour, increasing output in the short run is likely
to lead to diminishing returns

Diminishing returns: where the next unit of labour is not as productive as the last

In the long-run, capital can be used to replace labour

Supply of labour:

 The supply of hours by an individual worker


 The supply of workers to an individual employer
 The total market supply of a given category of labour

Supply of labour by an individual worker:

 Work involves 2 main costs to the worker;


- The sacrifice of leisure
- The work may be challenging, unpleasant, boring or dangerous.
 An extra hour worked involves extra utility – this can result in an upward sloping
supply curve of hours (higher wages to more work)
 The supply hours curve can also bend backwards because of 2 opposite effects;
(a) Substitutions effect:
Higher wages, a person will work more greater opportunity cost of leisure
(b) income effect:
higher wages imply worker can afford more leisure time.

Supply of labour to an employer and the market:

 the labour supply faced by an individual employer depends on the market structure:
- if the employer is a wage taker, the supply curve will be perfectly elastic
- if the employer is a wage maker, it will be upward sloping.
 The market labour supply is usually upward sloping: the higher the wage, the more
he hours worked. The position depends on: the number of qualified people, non-
wage benefits/costs of job & other jobs.
 How responsive the supply of labour is to a change in wages (elasticity) depends on
(a) Difficulty to change jobs
(b) Whether we’re in the long or the short run
 Wages will increase more with demand if the supply is more inelastic

Demand for labour:

 Previously - Marginal output rule:


MR = MC
Decided how much the firm should produce
Now – the marginal output rule determines: how much labour will the firm employ?
 Marginal input rule: as long as the firm does not shut down, a firm should employ
the number of units of labour such that he can maximise his profit where:
MRP = MC
Marginal revenue product of labour = marginal cost of labour
Why?
-MRP Is the change in TR due to employing one more unit of labour
-MC is the change in TC due to employing one more unit of labour
if MRP > MC then employing one more unit increases TR more than RC

relation to the marginal output rule:

 The marginal revenue product of labour is given by:


MRP = MR x MPP
Marginal revenue x marginal physical product of labour
 MPP: this is about how much output the extra unit of labour produces
 Therefore, the marginal input rule is:
MRP = MR x MPP = MC
MR = MC/MPP
 MC/MPP:
The cost of extra unit of labour divided by the number of units it produces it is the
extra cost of producing one of those units of output: MC / MPP = MC
The marginal input rule and marginal output rule are effectively the same

The shape of the marginal physical product of labour:

Assumptions of perfectly competitive labour markets:

 A1 – buyers of labour (the firms) operate in a perfectly competitive output market


the price for the output is taken as a given.
They believe that they can sell as much of their output as they want at the going
price without affecting that price so price = MR
When buyers are price takers in the product market MRP = MR x MPP = P x MPP
 A2 – buyers of labour (firms) are wage takers in the labour (input) market each firm
takes the wage rate as given. They believe that they can employ as much labour as
they want at the going wage rate without having an effect on that wage rate.
When buyers are wage takers MC = W
 A3 – both buyers and sellers have complete information, workers are aware of
available jobs and know conditions of employment, employers know the conditions
of employment, employers are also aware the amount of labour available and how
productive it is.
 A4 – workers are wage takers; each worker believes how much he/she supplies will
not affect the market price.
(a) A worker can supply as much as labour he/she wants, at a given wage
(b) A worker’s supply choice leads to no reaction from other workers.
 A5 – entry is free for workers – A potential worker can enter the market without
incurring costs that an incumbent worker would not incur.
- No restrictions on the movement of labour
- No barriers from unions or government
- Entry is often assumed to a long run decision
- It takes time for workers to become educated, relocate and change jobs

Appropriate market structure:

There are many small firms in the market. A change in workers supply has little effect on
wage if it is small relative to total. There are low barriers to entry. Workers must be able to
enter the free market freely. There are undifferentiated goods in the market. Buyers
consider all sellers to be identical, so they employ the cheapest available could differ due to
their productivity (ability, education, experience). There are many small buyers (firms). A
change in how much the buyer purchases has little effect on market wage rate, if it is small
relative to total.

Profit maximising position of an individual firm:

Equilibrium in the labour market (in the short run)

 The market is in equilibrium when:


(a) Buyers of labour – firms – choose optimal employment levels, given market wage
(b) Sellers of labour – workers – choose optimal supply levels, given market wage
(c) Sellers supply as much as buyers want to purchase, buyers purchase as much as
sellers choose to supply.

 This implies:
- The price in the product market is determined by supply and demand
- The market wage is determined by market supply and demand
- A sellers output is determined seller-specific supply and demand

Short-run equilibrium: finally, add the market supply curve:

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