Chapter 7-1

Chapter Seven

Wages and Employment in a Single Labour

Market

Modified from Slides Created by: Erica Morrill

Chapter 7-2

Chapter FocusEquilibrium in a single labour market Imperfect competitionPayroll taxesMonopsonyMinimum wage

Chapter 7-3

Competitive Firm’s Demand

Assumptions : homogeneous type of labour price taker and wage taker

Supply is perfectly elastic (horizontal) at the wage rate

Firms can employ all the labour they need at the market wage rate

Market wage rate is set by the aggregate labour market

Chapter 7-4

Figure 7.1 Competitive Product and Labour Markets

W

N

Wc

W

N

Wc

W

N

Wc

S

W0

W0

N01

N1 N02 N2 Ni

D=Di

S1S2

Firm 1 Firm 2 Aggregate Labour Market

Chapter 7-5

Short-Run A firm may have to raise its wages to

attract additional workers (see Fig 7-2)

Short-run labour supply curve is upward sloping

Chapter 7-6

Figure 7.2 The Labour Market in the Short Run and Long Run

Labour0

Wage

D

SS

S1

S’SSupply of workers increase depressing the high short run wage

D’

in demand leads to higher wages

WS

Wc

Chapter 7-7

Short-run and Long-run Labour SupplyLong run

Temporary wage increases above norm are consistent with the firm being a competitive buyer of labour. Wage then decreases as a result of increase in labour supply.

Short-run wage increases can be a market signal. It ensures that market forces operate in the longer run

Chapter 7-8

Equilibrium in a Competitive MarketMarket-clearing model (neoclassical)

for markets with homogeneous workers and homogeneous jobs wages will be equalized across workers

absences of “involuntary unemployment”

Chapter 7-9

In Reality…. The market-clearing model is not entirely true

Wages do not adjust quickly to clear the market Involuntary unemployment is frequent Large wage differentials exist across

homogeneous workers and jobs.

However, it still serves as a useful approximation of market theory

Chapter 7-10

Imperfect CompetitionMonopoly

firm= industryEffects of hiring more labour

marginal physical product of labour falls; marginal revenue falls; so MR*MP_N falls.

Since P>MR, MR*MP_N<P*MP_N as shown in Fig.7-3. The demand for labour is thus lower under imperfect competition.

Chapter 7-11

Figure 7.3 Monopolist Versus Competitive Demand for Labour

NNC*0

W*

NM*

DM = MPPN X MRQ= MRPN

DC = MPPN X PQ= VMPN

Chapter 7-12

Working with Supply and Demand

Simulating the effects of a policy change on equilibrium

Incidence of a unit payroll tax

Chapter 7-13

Unit Payroll TaxTax levied on employersProportional to the firm’s payroll

CPP/QPP Workers’ compensation unemployment insurance health insurance

Often considered “job killers”

Chapter 7-14

Figure 7.5 The Effect of a Payroll Tax on Employment and Wages

N0

W1

W0

A

T

NS

ND(W)

B

N1

ND(W+T)

C

D

W

Chapter 7-15

MonopsonyLarge relative to the size of the labour

market (I.e., labour market is dictated by the monopsonist)

Influences wageRaises wages to attract labour (I.e.,

face an upward-sloping labour supply schedule)

Chapter 7-16

Optimal Condition:Average cost is the wage rate Marginal cost is the new wage plus the

cost of paying the higher wage to existing workers (C=w(N)N; MCL=w’N+w)

Marginal cost is higher than average cost (MCL>w)

Profit Maximization when MCL=VMP

Chapter 7-17

Figure 7.6 Monopsony

Wage

0

VMPN=MPPnPQ

S=AC

MCL

VM

NM

WMSM

WC

NC

S0

VMPM

Chapter 7-18

Implications of a MonopsonyEmployment is lower than a competitive

situationRestricts employment because hiring

additional labour is costly

Chapter 7-19

Characteristics of Monopsonists

Importance of elasticity of labour supply in wage and employment determination

Most firms have an element of monopsony power in short run

Examples of monopsony in long run: would be a one industry town in an isolated region if workers have specialized skills that are useful only in a

specific firm

Chapter 7-20

Perfect Discriminating Monopsonist (1st degree)

Workers are paid different wages with an intention to raise its profits

Chapter 7-21

Discriminating Monopsonist: Wage vs MCLSupply schedule equal to the average

cost and marginal cost , w(L)=MCLDoes not have to pay existing workers

any more than their reservation wage (according to the supply curve)

Chapter 7-22

Figure 7.7 Monopsony (1st degree)

Wage

0

VMPN=MPPnPQ

S=AC= MCL

NM

SM

WC

Nd

S0

VMPM

Solutionis at E

E

Chapter 7-23

Wage Discrimination (3rd degree)Monopsonists differentiate between

groups of workers different types of labour can be separated there are different supply elasticities (e.g.,

men vs women)

(graph not drawn)

Chapter 7-24

Minimum Wage Legislation: Impact on Competitive Labour Market

Adverse employment effect Firms employ less labour at a higher cost Higher wage encourages more people to

seek work Magnitude of adverse employment effect

depends on the elasticity of the demand for labour

Chapter 7-25

Figure 7.8 Effect of Minimum Wage on the Competitive Market

Wage

0

VMPN=MPPnPQ

WC

N*

Wmin

E

S

Nmin

Chapter 7-26

Minimum Wage Legislation: Impact on Monopsony

minimum wage (or other form of price fixing) may increase employment

reduces monopsony profits depends on the extent to which

monopsony is associated with workers who are paid below minimum wage

Chapter 7-27

Figure 7.9 Monopsony and Minimum Wage

MC

S=AC

VMP

N1N0

MC1

VMP0

W1

W0

Chapter 7-28

Minimum Wage: summary Reduces employment in competitive labour

markets Increases employment in monopsonistic

labour market

Chapter 7-29

End of Chapter Seven