Chapter 16: The Markets for the

Factors of Production

1. Recall that economics is study of scarcity of resources and the need for their efficient allocation or utilization.

The guiding principles for the efficient allocation of resources is consistent with the profit maximization goal of firms

In the products market: MR=MC => P=MC in the case of perfect competition

In the factors market: (VMPL) MRPL => Wage Rate (MFC L =SL)

The two profit maximizing rules are simply two views of the same choice process. Both rules result in the efficient allocation of resources.

Factors of production are the inputs used to produce goods and services (labor, capital, land, managerial ability).

The Markets for the Factors of Production

2. The demand for a factor of production is a “derived” which means that the demand for the input depends on the demand for the final product.

3. Examples: D-accountants depends on the demand for accounting services; D-steel depends on the D for autos, D for housing, D for refrigerators

4. The determinants of demand for labor are: productivity of the worker (education; technology) and the price of what it produces

Derived Demand for Inputs

5.The the demand for labor (DL) is represented by the value of marginal product (VMPL ), or marginal revenue product (MRPL)

VMPL (MRPL) = Marginal product (MPL) X price

6.The Hiring Rule for Inputs VMPL(MRPL)= MFCL (Wage)

Derived Demand for Inputs

Labor Output MPL Price VMPL(MRPL) Wage(MFCL)

0 01 10 10 $.50 $5.00 $5.00 2 25 15 .50 7.50 5.00 3 35 10 .50 5.00 5.004 40 5 .50 2.50 5.00 5 42 2 .50 1.00 5.00 6 42 0 .50 0.00 5.00

Krystals should hire 3 students. Why? Graph

7. Given a production function, the product price, and the wage rate, show how the DL and SL determines optimal level of employment.

MRPL, MFCL

Optimal Level of Hiring

MFCL

MRPL

$5

L=3

MFCL

L=2

$6

8. Note that the demand for labor is downward sloping because of the law of diminishing returns.

9. What are the factors which cause the demand for labor to shift (increase or decrease) ?

-change in productivity due to an improvement in technology and education

-Change in the product price due to a change in the demand for the product that labor produces.

10. What happens to the number of workers hired if the wage rises? Why?

It will decrease the number of workers hired because the firm will substitute capital or other inputs for labor.

Derived Demand for Inputs

It is determined by the market demand and the market supply of workers in each profession.

11. How are the salaries of workers in different professions determined?

W, MRPL

SL

DL=MRPL

Lc

Wc

Difference in education i.e. amount training required for the job (brain surgeon)

Compensating differentials for risks involved with the job (Fire fighters, Police)

Having a special talent (skills) which entitles owners to

realize economic rent (LeBron James, Michael Jordan, Larry Baird, Barry Bond, entertainers)

Discrimination (gender and race)-see p. 551 white males = $46,746; white women= $34,464; black males

= $33,248; black females= $29,749; Hispanic males= $26,769; and Hispanic females= $24,402 as of

2006

12. Why are there such wage differentials among workers?

It depends on the skill and experience of workers

It does not have a negative effect on the skilled and experienced workers who earn above the minimum wage.

It may, however, reduce the employment level of the youth.

13. What is the effect of minimum wage on the level of employment?

They formed unions and engaged in collective bargaining with management.

A labor Union is an organized group of workers whose purpose is to increase wages and influence other job conditions for its members.

Union strengths peaked in the 1950s when 35 % of the nonagricultural workers belonged to unions.

Since 1955, it has declined to about 11.9%. (Teamsters, UAW, USW, AMA, CWA, Machinist, Carpenters, Electricians, ABA, NBA)

14. What were the means by which workers tried to increase wages and benefits in various industries?

The repression phase- period before the Great Depression of the 1930s-management has had the support of courts to expel workers it they tried to form a union.

The encouragement phase of 1935-before 1947 (Norris-LaGuardia Act, 1932, and Wagner Act, 1935) –collective bargaining between mgt & unions

The Cool-off period – Taft Hartley Act of 1947- gave the President the power to call off strikes

15. A Brief History of Labor the Movement in the U.S.: Phases

a. Crafts union- association of a group of workers with similar skills (ABA, AMA, Electricians, Carpenters, PE, etc.)-exclusive-limited entry

b. Industrial union- a group of workers who have a variety of skills and job types in the same industry (UAW, USW)-inclusive-power source or strength

16. Types of Unions

a. To increase compensation (30% higher than nonunion wage)

b. To improve working conditions

c. To expand job opportunities

17. Three broad objectives of unions

Meaning- a market in which there is a single or dominant employer of workers

Example-School district in the hiring of teachers

The level of employment is determined where MFCL = MRPL but the wage rate is determine on the supply of labor, but the monopsony wage is determined on the market labor supply curve

18. How are wages and the level of employment determined in a monopsony labor market?

MRPL, MFCL

Monopsony Labor Market Graph

SL

MFCL

MRPL

Labor

Wu

Wc

Lm Lc

MRPL, MFCL

WM

Bilateral Monopoly- a labor market in which a monopoly of union faces a monopsony employer

Example: Teachers’ union facing School Board in salary negotiation

The level of employment is the same as the monopsony, but the wage depends on the bargaining position of either side, i.e. close union asking wage (Wu) or monopsony wage(Wm)

Show Graph

19. How is wage and the level employment determined in a bilateral monopoly labor market?

MRPL, MFCL

Bilateral Monopoly Graph

SL

MFCL

Wc

Wu

MRPL

LcLm

Wm

Labor

The Demand for Capital, land, and other factors can be analyzed in a similar fashion as

the demand for labor

In the financial market, the demand for capital is represented by the value of marginal product of capital (VMPcapital )= MFCcapital)

The interest rate or cost of capital is determined by the market demand and supply of financial capital.

In the market for land the demand for land is represented by the value of marginal product of land (VMPLand = MFCLand ).

Land rent is determined by the market demand and supply of land.

20. Market for other Factors of Production (capital, Land)