Wages and Employment in a Single Labour Market Chapter Seven Wages and Employment in a Single Labour Market Modified from Slides Created by: Erica Morrill

Chapter Focus Equilibrium in a single labour market Imperfect competition Payroll taxes Monopsony Minimum wage

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

Figure 7.1 Competitive Product and Labour Markets W N Wc W N Wc W N Wc W0 W0 S2 S1 D=Di N01 N1 N02 N2 Ni Firm 1 Aggregate Labour Market Firm 2

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

Figure 7.2 The Labour Market in the Short Run and Long Run  in demand leads to higher wages WS SS S’S Supply of workers increase depressing the high short run wage Wc S1 Wage D Labour

Short-run and Long-run Labour Supply 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

Equilibrium in a Competitive Market Market-clearing model (neoclassical) for markets with homogeneous workers and homogeneous jobs wages will be equalized across workers absences of “involuntary unemployment”

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

Imperfect Competition Monopoly firm= industry Effects 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.

Figure 7.3 Monopolist Versus Competitive Demand for Labour NM* DM = MPPN X MRQ= MRPN W* DC = MPPN X PQ=  VMPN NC* N

Working with Supply and Demand Simulating the effects of a policy change on equilibrium Incidence of a unit payroll tax

Unit Payroll Tax Tax levied on employers Proportional to the firm’s payroll CPP/QPP Workers’ compensation unemployment insurance health insurance Often considered “job killers”

Figure 7.5 The Effect of a Payroll Tax on Employment and Wages NS D A W0 B N1 ND(W+T) C T W1 ND(W) N0

Monopsony Large relative to the size of the labour market (I.e., labour market is dictated by the monopsonist) Influences wage Raises wages to attract labour (I.e., face an upward-sloping labour supply schedule)

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

Figure 7.6 Monopsony Wage MCL VMPM S=AC WC VM SM WM S0 VMPN=MPPnPQ NC

Implications of a Monopsony Employment is lower than a competitive situation Restricts employment because hiring additional labour is costly

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

Perfect Discriminating Monopsonist (1st degree) Workers are paid different wages with an intention to raise its profits

Discriminating Monopsonist: Wage vs MCL Supply schedule equal to the average cost and marginal cost , w(L)=MCL Does not have to pay existing workers any more than their reservation wage (according to the supply curve)

Figure 7.7 Monopsony (1st degree) Solution is at E Wage VMPM S=AC= MCL E WC Nd NM SM S0 VMPN=MPPnPQ

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)

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

Figure 7.8 Effect of Minimum Wage on the Competitive Market S Wmin E WC N* VMPN=MPPnPQ Nmin

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

Figure 7.9 Monopsony and Minimum Wage MC MC1 VMP0 S=AC W1 W0 VMP N1 N0

Minimum Wage: summary Reduces employment in competitive labour markets Increases employment in monopsonistic labour market

End of Chapter Seven