Chapter 10: Input Demand: The Labour and Land Markets

Input Markets: Basic Concepts Demand for Inputs: A Derived Demand derived demand: The demand for resources (inputs) that is dependent on the demand for the outputs those resources can be used to produce. productivity of an input: The amount of output produced per unit of that input.

Diminishing Returns

Marginal Revenue Product

Determination of Factor Prices by Supply and Demand How do we obtain the market demand for inputs? How do we find the overall market equilibrium? Decisions about labour supply are determined by the price of labour, and demographic factors. The supply of capital depends upon past investments made by businesses, households, and governments.

Fundamentals of Wage Determination Economists tend to look at the average real wage The demand for labour is determined by its marginal productivity Marginal productivity of better-trained or better- educated workers will generally be higher than that of workers with less ‘human capital’ Labour supply refers to the number of hours that the population desires to work in gainful activities. The substitution effect tempts each worker to work longer because of the higher pay for each hour of work. The income effect operates in the opposite direction because higher wages mean that workers can now afford more leisure time along with other good things of life. At some critical wage, the supply curve may bend backward.

Fundamentals of Wage Determination (cont.) Wage differentials Differences in the quality of labour explain many of the other differentials. Differences in people (i.e. unique individuals such as Bill Gates) is another segment that justifies wage differentials. Finally, noncompeting groups (i.e. immigrants) that specialize in a specific trade, particularly in the short run, justify wage differentials. Discrimination Discrimination occurs when economic difference arise because of irrelevant personal characteristics such as race, gender, sexual orientation, or religion.

A Firm Using Only One Variable Factor of Production: Labour

Comparing Marginal Revenue and Marginal Cost to Maximize Profits

Comparing Marginal Revenue and Marginal Cost to Maximize Profits (cont.)

Labour Markets A Firm Using Only One Variable Factor of Production: Labour Deriving Input Demands A Firm Employing Two Variable Factors of Production in the Short and Long Run Substitution and Output Effects of a Change in Factor Price factor substitution effect The tendency of firms to substitute away from a factor whose price has risen and toward a factor whose price has fallen. output effect of a factor price increase (decrease) When a firm decreases (increases) its output in response to a factor price increase (decrease), this decreases (increases) its demand for all factors.

Substitution and Output Effects of a Change in Factor Price

Substitution and Output Effects of a Change in Factor Price (cont.)

Land Markets demand-determined price The price of a good that is in fixed supply; it is determined exclusively by what firms and households are willing to pay for the good. pure rent The return to any factor of production that is in fixed supply. A firm will pay for and use land as long as the revenue earned from selling the product produced on that land is sufficient to cover the price of the land. Stated in equation form, the firm will use land up to the point at which MRPA = PA, where A is land The supply of land of a given quality at a given location is truly fixed in supply. Its value is determined exclusively by the amount that the highest bidder is willing to pay for it. Because land cannot be reproduced, supply is perfectly inelastic.

Land Markets (cont.)

The Firm’s Profit-Maximizing Condition in Input Markets Every firm has an incentive to use variable inputs as long as the revenue generated by those inputs covers the costs of those inputs at the margin. In other words, firms will employ each input up to the point that its price equals its MRP. This condition holds for all factors at all levels of output: Profit-maximizing condition for the perfectly competitive firm is PL = MRPL = (MPL x PX) PK = MRPK = (MPK x PX) PA = MRPA = (MPA x PX) where L is labour, K is capital, A is land (acres), X is output, and PX is the price of that output. When all these conditions are met, the firm will be using the optimal, or least costly, combination of inputs. If all these conditions hold at the same time, the MPL = MPK = MPA

Input Demand Curves Shifts in Factor Demand Curves The Demand for Outputs The Quantity of Complementary and Substitutable Inputs The Prices of Other Inputs Technological Change technological change The introduction of new methods of production or new products intended to increase the productivity of existing inputs or to raise marginal products. Technological change can and does have a powerful influence on factor demands. As new products and new techniques of production are born, so are demands for new inputs and new skills. As old products become obsolete, so, too, do the labor skills and other inputs needed to produce them.

Labour Market Issues and Policies History and Practice of Labour Unions Business unionism: American unions were engaged primarily in improving the economic status of workers. American unions were the opposite of the labour movements in many European countries, in which unions have sometimes dominated political parties and waged a class struggle to alter the form of government or to promote socialism. Craft unions: Workers were grouped on the basis of a particular skill, such as carpentry or bricklaying. Industrial unions: those organizing an entire industry such as steel or coal. Collective bargaining How unions raise wages Effects on employment Effects on wages and employment Has unionization raised wages?