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- This occurs when relatively unlimited
- human wants exceed the ability of limited resources to satisfy those
- The value of the next best alternative given up in order to accomplish a
- certain goal.
- Individuals weigh the
- benefits and costs of their actions all other things held constant and act when
- benefits exceed cost but refrain from acting when costs exceed benefits.
- Provided that a seller of a
- good or service owns whatever is to be exchanged and the two parties to a
- potential exchange can bargain over the exchange price (a) exchange will occur if
- both parties benefit from the exchange, or (b) exchange will not occur if one
- party does not benefit from the exchange.
- NOTE: Exchange is
- voluntary when both parties consent to the exchange or (b) when either
- party is free to turn down an offer of exchange.
- When one party to a potential
- exchange can force an exchange using the force of law as long as such
- an exchange is beneficial to him. The other party will typically lose
- from the exchange, and so would not have consented to the exchange if
- given the freedom to refuse the offer. Such exchanges generally generate
- negative unintended consequences.
- There are two types of
- bargaining power.
- Competitive bargaining power occurs when exchange is voluntary while the division of the gains from trade depend on the bargaining
- experience of each party. (b) Monopolistic bargaining power occurs when an
- exchange can be forced conferring all the gains from trade on one party and all
- the losses on the non-consenting party.
- In labor markets, this
- occurs when buyers can force sellers to accept a wage below their productivity
- or sellers can force buyers to pay a wage above their productivity.
- The party in a firm
- which has the right to the stream of revenues which remain after all fixed
- claims (such as labor and raw materials suppliers) on the firm’s revenues have
- been paid. Since the size of the residual revenue stream depends on how
- productive the fixed claimants are in generating revenues for the firm the
- residual claimant has a strong incentive to monitor the behavior of the fixed
LAW OF DEMAND FOR LABOR
- The quantity
- demanded of labor varies inversely with the wage rate, all other things held
DEMAND PRICE OF LABOR
- The maximum wage
- that an employer is willing to pay a given worker, based on an estimate of that
- worker’s productivity
OUTPUT (SCALE) EFFECT:
- The change in employment
- which occurs because of a change in the firm’s output. This change in output is
- caused by a change in the wage rate which causes the firm’s cost of production
- and the desired level of output to change.
SUBSTITUTION EFFECT (As It Relates to
- The change in employment resulting solely from a change in the
- relative price of labor, output being held constant.
SHIFTS IN THE DEMAND FOR LABOR
- in the factors that are held constant will cause a shift in the demand curve as
- opposed to a movement along the demand curve. These changes include changes in
- the product demand, prices of other inputs (substitutes or complements),
- productivity, and the number of employers.
- The notion that the demand
- curves for labor and other productive services are derived from the demand for
- the product they are used to produce.
LAW OF SUPPLY FOR LABOR
- The quantity supplied
- of labor varies directly with the wage, all other things held constant.
SUPPLY PRICE OF LABOR
- The lowest wage at which
- a given worker is willing to supply labor to a particular market. This wage is
- determined by the opportunity cost to that worker of supplying his labor
- services to that market instead of his next best alternative.
SHIFTS IN THE SUPPLY OF LABOR
- Changes in the
- things held constant will cause shifts in the labor supply curve, as opposed to
- a movement along the curve. These changes include (a) other wage rates, (b)
- non-wage income, (c) preferences for work versus leisure, (d)
- non-wage aspects of jobs, and (e) the number of qualified labor suppliers.
- Occurs when the quantity demanded
- of labor equals the quantity supplied of labor at a given wage.
- There are two cases: (1) Case
- 1: Excess Supply (ES) occurs when w > we, ES = LS
- – LD > 0, and wages have a tendency to fall as unemployed
- workers lower their wage offers in order become employed. (2) Case 2:
- Excess Demand (ED) occurs when w < we, ED = LD – LS
- > 0, and wages have a tendency to rise as employers try to fill their
- vacant positions.
SOCIAL WELFARE MAXIMUM (SWM)
- This occurs when
- the sum of the gains from trade for workers and employers is a maximum. In the
- absence of any market failures this occurs at the market equilibrium.
WELFARE LOSS (WL)
- This occurs
- because either (a) too few workers are employed relative to the number of
- workers employed at the social welfare maximum (with workers being diverted to
- other markets where they have lower valued uses) or (b) too many workers are
- employed relative to the number of workers employed at the social welfare
- maximum (with workers being employed in a lower valued use in the given
LAW OF DIMINISHING MARGINAL RETURNS (LDMR)
- principle that if technology is unchanged, as more units of a variable resource
- are combined with one or more fixed resources, the marginal product of the
- variable resource must eventually decline.
MARGINAL PRODUCT (MP)
- The change in output
- that results from changing labor input by one unit.
MP = ΔQ/ΔL
MARGINAL REVENUE PRODUCT (MRPL)
- change in the total revenue that results from changing labor input by one unit.
MRPL = ΔTR/ΔL
- Inputs such that when the
- price of one changes, the demand for the other changes in the same direction
- because the substitution effect exceeds the output effect.
- Inputs such that when the
- price of one changes, the demand for the other changes in the opposite
- direction because the output effect exceeds the substitution effect.
OWN-WAGE ELASTICITY OF DEMAND (eD)
- A measure of the
- responsiveness of the quantity of labor demanded to a change in the wage rate.
CROSS ELASTICITY OF DEMAND
- A measure of the
- responsiveness of the quantity demanded of input i to
- the change in the price of input j.
- > 0 inputs i and j are gross substitutes.
- < 0 inputs I and j are gross
TOTAL WAGE BILL
- The total wage cost to the
- firm; the wage rate multiplied by the quantity of labor hours employed.
TOTAL WAGE BILL RULES
- Rules for determining
- the elasticity of labor demand. Labor demand is elastic if a change in the wage
- rate causes the total wage bill to move in the opposite direction. Labor demand
- is inelastic if a change in the wage rate causes the total wage bill to move in
- the same direction.
DETERMINANTS OF ELASTICITY OF DEMAND FOR LABOR
- These include: product demand, ease of substituting other inputs, the
- elasticity of supply of other inputs, and the share of labor cost in the total
- costs of the firm.
- A wage floor where a legally established minimum rate of pay is
- specified for labor employed in covered occupations.