PowerPoint Presentations for Principles of Microeconomics Sixth Canadian Edition by Mankiw/Kneebone/McKenzie Adapted for the Sixth Canadian Edition by Marc Prud’homme University of Ottawa

THE MARKETS FOR THE FACTORS OF PRODUCTION Chapter 18 Copyright © 2014 by Nelson Education Ltd.18-2

THE MARKETS FOR THE FACTORS OF PRODUCTION  In 2011, the total income of all Canadians was about $1.7 trillion.  People earned this income in various ways:  Workers earned about three-quarters of it in the form of wages and benefits.  The rest went to landowners and to the owners of capital in the form of rent, profit, and interest.  What determines how much goes to workers?  To landowners?  To the owners of capital? Copyright © 2014 by Nelson Education Ltd.18-3

THE MARKETS FOR THE FACTORS OF PRODUCTION  This chapter provides the basic theory for the analysis of factor markets.  Factors of production : the inputs used to produce goods and services  Labour  Land  Capital  The demand for a factor of production is a derived demand. Copyright © 2014 by Nelson Education Ltd.18-4

THE DEMAND FOR LABOUR  Labour markets, like other markets in the economy, are governed by the forces of supply and demand. Copyright © 2014 by Nelson Education Ltd.18-5

FIGURE 18.1: The Versatility of Supply and Demand Copyright © 2014 by Nelson Education Ltd.18-6

The Competitive, Profit-Maximizing Firm How does an apple producer decide what quantity of labour to demand? Two assumptions: 1.The firm is competitive both in the market for apples and in the market for apple pickers. 2.The firm is a profit-maximizing firm. Copyright © 2014 by Nelson Education Ltd.18-7

The Production Function and the Marginal Product of Labour  To make its hiring decision, the firm must consider how the size of its workforce affects the amount of output produced. Copyright © 2014 by Nelson Education Ltd.18-8

The Production Function and the Marginal Product of Labour  Production function : the relationship between the quantity of inputs used to make a good and the quantity of output of that good Copyright © 2014 by Nelson Education Ltd.18-9

TABLE 18.1: How the Competitive Firm Decides How Much Labour to Hire Copyright © 2014 by Nelson Education Ltd.18-10

FIGURE 18.2: The Production Function Copyright © 2014 by Nelson Education Ltd.18-11

The Production Function and the Marginal Product of Labour  Marginal product of labour (MPL): the increase in the amount of output from an additional unit of labour  Diminishing marginal product: the property whereby the marginal product of an input declines as the quantity of the input increases Copyright © 2014 by Nelson Education Ltd.18-12

The Value of the Marginal Product and the Demand for Labour  When deciding how many workers to hire, the firm considers how much profit each worker would bring in.  Because profit is total revenue minus total cost, the profit from an additional worker is the worker’s contribution to revenue minus the worker’s wage. Copyright © 2014 by Nelson Education Ltd.18-13

 Value of the marginal product (VMP) : the marginal product of an input times the price of the output  Economists sometimes call the VMP the firm’s marginal revenue product.  It is the extra revenue the firm gets from hiring an additional unit of a factor of production. Copyright © 2014 by Nelson Education Ltd The Value of the Marginal Product and the Demand for Labour

 A competitive, profit-maximizing firm hires workers up to the point where the value of the marginal product of labour equals the wage. Copyright © 2014 by Nelson Education Ltd The Value of the Marginal Product and the Demand for Labour

FIGURE 18.3: The Value of the Marginal Product of Labour Copyright © 2014 by Nelson Education Ltd.18-16

What Causes the Labour Demand Curve to Shift?  Factors that affect the labour demand curve:  The output price  Technological change  The supply of other factors Copyright © 2014 by Nelson Education Ltd.18-17

QuickQuiz Define marginal product of labour and value of the marginal product of labour. Describe how a competitive, profit-maximizing firm decides how many workers to hire. Copyright © 2014 by Nelson Education Ltd.18-18

Copyright © 2014 by Nelson Education Ltd. P = $5/bushel. Find MPL and VMPL, fill them in the blank spaces of the table. Then graph a curve with VMPL on the vertical axis, L on horizontal axis VMPLMPL Q (bushels of wheat) L (no. of worker) Active Learning Computing MPL and VMPL

Copyright © 2014 by Nelson Education Ltd VMPL = P x MPL MPL = ∆ Q / ∆ L Q (bushels of wheat) L (no. of workers) 1, , , , $5, Farmer Jack’s production function exhibits diminishing marginal product : MPL falls as L increases. This property is very common Active Learning Answers

Copyright © 2014 by Nelson Education Ltd. Farmer Jack’s VMPL curve is downward sloping due to diminishing marginal product. L (number of workers) 0 1,000 2,000 3,000 4,000 5,000 $6, The VMPL curve Active Learning Answers

Copyright © 2014 by Nelson Education Ltd. At any larger L, can increase profit by hiring one fewer worker. Suppose wage W = $2500/week. How many workers should Jack hire? Answer: L = 3 At any smaller L, can increase profit by hiring another worker. L (number of workers) The VMPL curve 0 1,000 2,000 3,000 4,000 5,000 $6, $2, Active Learning Answers

THE SUPPLY OF LABOUR  A formal model of labour supply is included in Chapter 21.  This chapter provides a brief informal discussion about the decisions that lie behind the labour supply curve. Copyright © 2014 by Nelson Education Ltd.18-23

The Tradeoff between Work and Leisure  The labour supply curve reflects how workers’ decisions about the labour–leisure tradeoff respond to a change in that opportunity cost.  An upward-sloping labour supply curve means that an increase in the wage induces workers to increase the quantity of labour they supply.  A backward-sloping supply curve means that an increase in the wage induces workers to decrease the quantity of labour they supply. Copyright © 2014 by Nelson Education Ltd.18-24

What Causes the Labour Supply Curve to Shift?  Factors that affect the labour supply curve:  Changes in tastes  Changes in alternative opportunities  Immigration Copyright © 2014 by Nelson Education Ltd.18-25

QuickQuiz Who has a greater opportunity cost of enjoying leisure—a janitor or a brain surgeon? Explain. Can this help explain why doctors work such long hours? Copyright © 2014 by Nelson Education Ltd.18-26

EQUILIBRIUM IN THE LABOUR MARKET  Two facts about how wages are determined in competitive labour markets: 1.The wage adjusts to balance the supply and demand for labour. 2.The wage equals the value of the marginal product of labour. Copyright © 2014 by Nelson Education Ltd.18-27

FIGURE 18.4: Equilibrium in a Labour Market Copyright © 2014 by Nelson Education Ltd.18-28

 Any event that changes the supply or demand for labour must change the equilibrium wage and the value of the marginal product by the same amount, because these must always be equal. Copyright © 2014 by Nelson Education Ltd EQUILIBRIUM IN THE LABOUR MARKET

Shifts in Labour Supply  Suppose that immigration increases the number of workers willing to pick apples. Copyright © 2014 by Nelson Education Ltd.18-30

FIGURE 18.5: A Shift in Labour Supply Copyright © 2014 by Nelson Education Ltd.18-31

Shifts in Labour Demand  Now suppose that an increase in the popularity of a good causes its price to rise. Copyright © 2014 by Nelson Education Ltd.18-32

FIGURE 18.6: A Shift in Labour Demand Copyright © 2014 by Nelson Education Ltd.18-33

TABLE 18.2: Productivity and Wage Growth in Canada Copyright © 2014 by Nelson Education Ltd.18-34

QuickQuiz How does an immigration of workers affect labour supply, labour demand, the marginal product of labour, and the equilibrium wage? Copyright © 2014 by Nelson Education Ltd.18-35

THE OTHER FACTORS OF PRODUCTION: LAND AND CAPITAL  Capital : the equipment and structures used to produce goods and services Copyright © 2014 by Nelson Education Ltd. Thinkstock 18-36

Equilibrium in the Markets for Land and Capital  What determines how much the owners of land and capital earn for their contribution to the production process?  The purchase price of land or capital is the price a person pays to own that factor of production indefinitely.  The rental price is the price a person pays to use that factor for a limited period of time. Copyright © 2014 by Nelson Education Ltd.18-37

FIGURE 18.7: The Markets for Land and Capital Copyright © 2014 by Nelson Education Ltd.18-38

Linkages among the Factors of Production  The price paid to any factor of production (labour, land, or capita) = the VMP of that factor.  The VMP of any factor, in turn, depends on the quantity of that factor that is available.  When the supply of a factor falls, its equilibrium factor price rises. Copyright © 2014 by Nelson Education Ltd.18-39

Linkages among the Factors of Production  When the supply of any factor changes, however, the effects are not limited to the market for that factor.  A change in the supply of any one factor alters the earnings of all the factors.  Moral of the story:  An event that changes the supply of any factor of production can alter the earnings of all the factors. Copyright © 2014 by Nelson Education Ltd.18-40

QuickQuiz What determines the income of the owners of land and capital? How would an increase in the quantity of capital affect the incomes of those who already own capital? How would it affect the incomes of workers? Copyright © 2014 by Nelson Education Ltd.18-41

THE END Chapter 18 Copyright © 2014 by Nelson Education Ltd.18-42