Chapter 11: Labour Markets (Econ 101 Fall 2024, University of Waterloo) PDF

Chapter 11: Labour Markets P ROF ESSO R M I K A L S KU T ERU D ECO N 1 0 1 – FA L L 2 0 2 4 U N I V ERSITY O F WAT ER LO O The labour market for hair stylists The figure shows the competitive labour market for hair stylists. The vertical axis measures the price of one hour of labour and the h...

Chapter 11: Labour Markets P ROF ESSO R M I K A L S KU T ERU D ECO N 1 0 1 – FA L L 2 0 2 4 U N I V ERSITY O F WAT ER LO O The labour market for hair stylists The figure shows the competitive labour market for hair stylists. The vertical axis measures the price of one hour of labour and the horizontal axis measures the quantity of hours of work bought and sold in the market. Whose decisions determine the labour supply curve? Whose decisions determine the labour demand curve? The equilibrium wage is the wage that equates the quantity supplied and demanded in the market. Market labour demand curve In a competitive labour market, employers are wage- takers. The marginal product of labour is the increase in output that comes from hiring one more unit of labour. The marginal revenue product of labour is the increase in revenue that comes from hiring one more unit of labour. It is equal to the marginal product of labour times the product price. The Rational Rule for Employers says to hire additional units of labour as long as the marginal revenue product of labour is greater than or equal to the wage. Labour demand is equal to the marginal revenue of labour. It is downward sloping because of diminishing marginal product of labour. Shifts in the labour demand curve 1. The demand for labour is derived demand because it derives from the demand for the goods and services that labour produces. When the price of the output increases so does the marginal revenue product of labour and labour demand is higher at every wage. 2. A decrease in the price of capital has an ambiguous effect on labour demand. When the price of capital falls, the marginal cost of production falls which incentivizes businesses to produce more and demand more labour. This is called a scale effect. But capital and labour may also be substitutable in production, in which case a decrease in the price of capital causes a decrease in labour demand. This is called a substitution effect. If the scale effect dominates the substitution, capital and labour are complements. If the substitution effect dominates the scale effect, capital and labour are substitutes. 3. An increase in labour productivity resulting in improved management or a technological change increases the marginal product of labour and, in turn, labour demand. 4. If nonwage costs of labour increase, such as benefits or payroll taxes, the demand for labour decreases and vice-versa. Individual labour supply curve The opportunity cost of an hour of work is an hour of foregone leisure. The Rational Rule for Workers says to work one more hour as long as the wage is at least as large as the marginal benefit of another hour of leisure. The substitution effect of a wage increase increases the relative price of leisure leading you to work more hours. The income effect of a wage increase leads to a decrease in work hours if leisure is a normal good. Market labour supply curve The market labour supply tells us the total labour supply in the market for a given wage rate. It is upward sloping for three reasons: 1. Existing workers may be induced to work more hours (substitution effect), although this effect may be small (offsetting income effect). 2. New people who would otherwise be students, homemakers or retired are induced to enter the workforce. 3. Some people may be induced to switch occupations where wages are rising faster. Shifts in the labour supply curve 1. Wage changes in other labour markets that compete for similar types of workers, perhaps because skill requirements of jobs are similar, can cause the quantity supplied of labour to change at every wage. 2. Changes in the underlying population due to demographic shifts or immigration can change the number of potential workers at every wage, causing labour supply to increase or decrease. 3. Changing benefits of not working can increase or decrease workers’ willingness to work at every wage. Examples include changing prices of non-work activities (higher university tuition fees), fixed costs of working (lower childcare costs), and changes in individuals’ incomes unrelated to their work activity (higher EI benefits). 4. Changes in nonwage benefits that affect the total compensation that a worker gets at any given wage, such as increases in pension benefits. Effect of CERB benefits on equilibrium wage and employment level? In March 2020, the federal government needed to find a way to support workers laid off from their jobs due to public health measures. In labour markets where public health measures restricted work activity (e.g., bartenders), labour demand was dramatically reduced. But what was the effect of CERB in labour markets where businesses did not close? CERB increased the opportunity cost of working since it was only available to workers who were not working. This should have reduced labour supply at every wage and put upward pressure on the equilibrium wage rate.