c h a p t e r sixteen © 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. Prepared by: Fernando & Yvonn Quijano The Markets for Labor and Other Factors of Production

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 2 of 34 After studying this chapter, you should be able to: Explain how firms choose the profit-maximizing quantity of workers to employ. Explain how people choose the quantity of labor to supply. Explain how equilibrium wages are determined in labor markets. Use demand and supply analysis to explain why compensating differentials, discrimination, and labor unions cause wages to differ. Discuss the role personnel economics can play in helping firms deal with human resources issues. Show how equilibrium prices are determined in the markets for capital and natural resources. Why Are the New York Mets Paying Carlos Beltran a $17 Million Salary? LEARNING OBJECTIVES …wages are determined in the labor market by the demand and supply of labor… 4 5 6

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 3 of 34 The Markets for Labor and Other Factors of Production Factors of production Labor, capital, natural resources, and other inputs used to produce goods and services.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 4 of 34 The Demand for Labor Derived demand The demand for a factor of production that is derived from the demand for the good the factor produces. LEARNING OBJECTIVE 1

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 5 of 34 The Demand for Labor The Marginal Revenue Product of Labor Marginal product of labor The additional output a firm produces as a result of hiring one more worker. Marginal revenue product of labor (MRP) The change in the firm’s revenue as a result of hiring one more worker.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 6 of 34 The Demand for Labor The Marginal Revenue Product of Labor The Marginal Revenue Product of Labor and the Demand for Labor

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 7 of 34 The Demand for Labor The Marginal Revenue Product of Labor WHEN …THEN THE FIRM … MRP > W,should hire more workers to increase profits. MRP < W,should hire fewer workers to increase profits. MRP = W, is hiring the optimal number of workers and is maximizing profits. The Relationship between the Marginal Revenue Product of Labor and the Wage 16 – 1

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 8 of 34 Hiring Decisions by a Firm That Is a Price Maker LEARNING OBJECTIVE 1 (1) QUANTITY OF LABOR (2) OUTPUT OF TELEVISIONS PER WEEK (3) MARGINAL PRODUCT OF LABOR (4) PRODUCT PRICE (5) TOTAL REVENUE (6) MARGINAL REVENUE PRODUCT OF LABOR (7) WAGE (8) ADDITIONAL PROFIT FROM HIRING ONE ADDITIONAL WORKER 00—$200$0—$500— $1, $ , , – , – ,000–160500– ,680–320500–820

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 9 of 34 The Demand for Labor Factors That Shift the Labor Demand Curve The four most important factors that cause the labor demand curve to shift are the following:  Increases in human capital. Human capital The accumulated training and skills that workers possess.  Changes in technology.  Changes in the price of the product.  Changes in the quantity of other inputs.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 10 of 34 The Supply of Labor LEARNING OBJECTIVE The Labor Supply Curve A Backward-Bending Supply Curve for Labor

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 11 of 34 The Supply of Labor Factors That Shift the Labor Supply Curve The three most important variables that cause the labor supply curve to shift are the following:  Increases in population.  Changing demographics.  Changing alternatives.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 12 of 34 Equilibrium in the Labor Market LEARNING OBJECTIVE Equilibrium in the Labor Market

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 13 of 34 Equilibrium in the Labor Market The Effect of an Increase in Labor Demand The Effect on Equilibrium Wages of a Shift in Labor Demand

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 14 of 34 Will Your Future Income Depend on Which Courses You Take in College? How does a college degree affect your future earnings?

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 15 of 34 Equilibrium in the Labor Market The Effect on Equilibrium Wages of a Shift in Labor Supply The Effect of an Increase in Labor Supply

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 16 of 34 Why Didn’t the Great Immigration Waves of the Early Twentieth Century Cause Wages to Fall? In the early 20th century, wages rose as technological change increased the demand for labor enough to offset the increase in labor supply resulting from immigration.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 17 of 34 Explaining Differences in Wages Baseball Players Are Paid More Than College Professors LEARNING OBJECTIVE 4 Remember that Prices and Wages Are Determined at the Margin

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 18 of 34 Technology and the Earnings of “Superstars” Why does Julia Roberts earn more today relative to the typical actor than stars did in the 1940s?

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 19 of 34 Explaining Differences in Wages Compensating Differentials Compensating differentials Higher wages that compensate workers for unpleasant aspects of a job. Discrimination Economic discrimination Paying a person a lower wage or excluding a person from an occupation on the basis of an irrelevant characteristic such as race or gender.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 20 of 34 Explaining Differences in Wages Discrimination GROUPANNUAL EARNINGS White males$41,367 Black males32,026 White females31,329 Black females27,072 Hispanic males26,014 Hispanic females22,449 Why Do White Males Earn More than Other Groups? 16 – 2

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 21 of 34 Explaining Differences in Wages Discrimination IS IT DISCRIMINATION, OR OTHER FACTORS? 1. Differences in education. 2. Differences in experience. 3. Differing preferences for jobs.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 22 of 34 Explaining Differences in Wages Discrimination “WOMEN’S JOBS”“MEN’S JOBS” OCCUPATION WEEKLY EARNINGS PERCENTAGE OF WORKERS WHO ARE WOMENOCCUPATION WEEKLY EARNINGS PERCENTAGE OF WORKERS WHO ARE WOMEN Preschool and kindergarten teachers$ %Electricians$7482.1% Childcare workers %Aircraft mechanics8212.5% Receptionists %Firefighters8162.6% Hairdressers %Airline pilots1,3504.4% Dental assistants %Aerospace engineers1,3629.6% Teacher assistants %Civil engineers1, % Nursing aides %Engineering managers1, % Maids and housekeeping cleaners % Computer software engineers1, % Cashiers %Chief executives1, % “Men’s Jobs” Often Pay More Than “Women’s Jobs” 16 – 3

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 23 of 34 Is “Comparable Worth” Legislation the Answer to Closing the Gap between Men’s and Women’s Pay? LEARNING OBJECTIVE 4

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 24 of 34 Explaining Differences in Wages Discrimination DOES IT PAY TO DISCRIMINATE? Discrimination and Wages

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 25 of 34 Explaining Differences in Wages Discrimination DOES IT PAY TO DISCRIMINATE? Why will competition not eliminate all economic discrimination? 1. Worker discrimination. 2. Customer discrimination. 3. Negative feedback loops.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 26 of 34 Explaining Differences in Wages Labor Unions Labor union An organization of employees that has the legal right to bargain with employers about wages and working conditions The United States Is Less Unionized Than Most Industrial Countries Union Workers Earn More than Nonunion Workers 16 – 4 AVERAGE WEEKLY EARNINGS Union workers$781 Nonunion workers$612

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 27 of 34 Personnel Economics LEARNING OBJECTIVE 5 Personnel economics The application of economic analysis to human resources issues Paying Car Salespeople by Salary or by Commission Should Workers’ Pay Depend on How Much They Work or on How Much They Produce?

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 28 of 34 Raising Pay, Productivity, and Profits at Safelite AutoGlass A piece-rate system at Safelite AutoGlass led to increased worker wages and firm profits.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 29 of 34 Personnel Economics Firms may choose a salary system for several good reasons:  Difficulty in measuring output.  Concerns about quality.  Worker dislike of risk. Other Considerations in Setting Compensation Schemes

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 30 of 34 The Markets for Capital and Natural Resources LEARNING OBJECTIVE Equilibrium in the Market for Capital The Market for Capital

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 31 of 34 The Markets for Capital and Natural Resources Equilibrium in the Market for Natural Resources The Market for Natural Resources Economic rent (or pure rent) The price of a factor of production that is in fixed supply.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 32 of 34 The Markets for Capital and Natural Resources Monopsony Monopsony The sole buyer of a factor of production. The Marginal Productivity Theory of Income Distribution Marginal productivity theory of income distribution The theory that the distribution of income is determined by the marginal productivity of the factors of production that individuals own.

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 33 of 34 Terps’ Coaches Have Big Incentives

© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1 st ed. CHAPTER 16: The Markets for Labor and Other Factors of Production 34 of 34 Compensating differentials Derived demand Economic discrimination Economic rent or pure rent Factors of production Human capital Labor unions Marginal product of labor Marginal productivity theory of income distribution Marginal revenue product of labor Monopsony Personnel economics