1. Chapter 18
Labor Markets

2. Outline The Demand for Labor and the Marginal Product of Labor
Supply of Labor
Labor Market Issues
How Bad Is Labor Market Discrimination, or Can Lakisha Catch a Break?

3. Introduction
This chapter examines the factors underlying the demand for labor and the supply of labor.
It explains:
How wages are determined.
Why Americans earn so much by global standards.
Why education raises wages.
How much labor unions help workers.
How discrimination shapes labor markets. 3

4. Definition Marginal product of labor (MPL):
the increase in a firm’s revenues created by hiring an additional laborer.

5. The Marginal Product of Labor
Table 18-1 (18-1): The Marginal Product of Labor
A firm is willing to hire a worker when the marginal product of labor is greater than the wage (cost). 5

6. The Marginal Product of Labor
Wage
Demand curve for labor
If market wage = $10, 7 janitors will be hired.
If market wage increases to $30, only 1 janitor will be hired.
$40 30
Marginal product of labor 20
Figure 18-1 (18-1): The Marginal Product of Labor Determines a Firm’s Demand Curve for Labor 10
Number
of janitors 1 2 3 4 5 6 7 8 9 10

7. Demand for Labor When the wage falls, firms hire more workers.
Workers are assigned to less important tasks.
As wage falls, so does the marginal product of labor (MPL).
Firms will keep hiring workers as long as the MPL > wage. 7

8. Supply of Labor Market supply curve for labor is upward sloping.
Some, though not all, workers are likely to work more as wages increase.
When wages in one industry increase, that attracts workers from other industries.
An individual supply curve could have a zero, positive, or even negative slope. 8

9. Individual Supply of Labor
Joe’s Supply of Labor
Wage
$28
Joe works 40 hours when wage is between $7 and $16
Joe works more hours when wage is between $16 and $20
Joe works fewer hours when wage rises above $20 20 16
Figure 18-2 (18-2): The Individual and Market Supply of Labor (LEFT) 7 // 40 50
Hours

10. Individual Supply of Labor
Market Supply of Labor
Wage
$28
Market supply is upward sloping. 20 16
Figure 18-2 (18-2): The Individual and Market Supply of Labor (RIGHT) 7 80
200
320
640
Hours
(millions)

11. Labor Market
We can put together the supply and demand to represent the market for labor.
The price (wage) is found at the intersection of demand and supply.
A firm will keep hiring workers so long as MPL is greater than W.
For many firms and many workers, MPL = W. 11

12. Labor Market Market for Janitors Wage
There are 42 million janitors in the US, working 168 hours per week.
The marginal product of a janitor is $10 per hour.
Supply
$10
Demand
(MPL)
Hours
per week
(millions)
168

13. Labor Market Issues U.S. versus Indian Wages
The productivity of U.S. firms raises the MPL of American workers.
More capital is invested per worker in the U.S.
American office workers, on average, are better educated.
U.S. firms have better marketing, longer global reach for their sales force, and greater investment in brand names.
U.S. firms produce a more valuable product. 13

14. Labor Market Issues U.S. versus Indian Wages
Wage is determined not by skills alone but by the productivity of the entire economy.
A typical Indian worker would earn more in the U.S. than in India.
Supply of workers, and supply of low-skilled workers, are both higher in India. 14

15. Janitors - U.S. versus India
Wage
Supply, U.S.
The productivity of U.S. firms raises the MPL and thus the wages of U.S. janitors.
$10
Demand, U.S.
Supply, India $1
Demand, India //
QU.S.
QIndia.
Hours per week
(millions)

16. Definition Human capital:
tools of the mind; the stuff in people’s heads that makes them productive.

17. Labor Market Issues Human Capital
Wages within America differ greatly from worker to worker.
Some workers have higher wages than others because they have more human capital.
Human capital involves investment in education, training, and experience.
On average, more education brings a higher wage.
Wages for a college graduate are almost double those of a high school graduate. 17

18. Labor Market Issues Human Capital Return to human capital is rising:
The ability to work with computers has made an education more valuable.
Bottlenecks in grade-school education are limiting flows into college.
Technology and competition from developing countries have limited wage growth for low skilled jobs.
A degree signals intelligence, competence, and conscientiousness. 18

19. The Return to Education
Figure 18-5 (18-5): The Return to Education 19

20. Definition Compensating differential:
a difference in wages that offsets differences in working conditions.

21. Labor Market Issues Compensating Differentials
The real wage of a job includes not just the monetary pay but also the working conditions.
A dangerous job reduces the supply of labor, increasing the wage.
Being a musician is more fun but pays less than being an accountant.
Workers become less willing to accept risk as economic growth makes them wealthier. 21

22. Compensating Differentials
Wage
Supply, high risk
Higher wage for same number of workers
Supply, low risk
Whigh risk
Fewer workers at the same wage
Wlow risk
Demand
Number of
Workers
Nhigh risk
Nlow risk
Riskier jobs pay more, all else being equal.

23. Compensating Differentials
Wages adjust until similar jobs have similar compensation packages.
More money
less fun
More fun
less money
Figure 18-7 (18-7): Wages Adjust until Similar Jobs Have Similar Compensation Packages

24. Labor Market Issues Unions and Wages
The U.S. and Switzerland have lower unionization rates but wages similar to the rest of Western Europe.
Wages in unionized jobs tend to be higher than in nonunionized jobs.
Unions can improve labor / management relations and ensure employees are treated fairly.
Unions raise wages by reducing employment. 24

25. Unions raise wages by restricting the supply of labor.
Labor Market Issues
Wage
Supply with union
Supply without union
Wwith union
Unions raise wages by restricting the supply of labor.
WW/O union
Figure 18-8 (18-8): By Reducing the Supply of Labor, a Union Can Increase Wages
Demand
Nwith union
NW/O union
Number of workers

26. Labor Market Issues Unions and Wages
Professionals such as doctors, lawyers, and accountants have professional associations that also restrict labor supply.
Unions can raise the wages of particular classes of workers.
Unions are not the fundamental reason why wages are high in the wealthy countries. 26

27. Definition Statistical discrimination:
using information about group averages to make conclusions about individuals.

28. Labor Market Discrimination
Statistical discrimination
Discrimination is a useful shorthand for making some decisions.
However, it causes people to make many errors.
The long-run consequences can be very harmful to the penalized groups.
TIMOTHY TADDER/CORBIS 28

29. Labor Market Discrimination
Preference-based discrimination
Three different kinds:
Discrimination by employers.
Discrimination by customers.
Discrimination by employees. 29

30. Labor Market Discrimination
1. Discrimination by Employers
Bigoted employers discriminate based on race, ethnicity, religion, or gender.
The wages of people who are discriminated against will fall since demand for their labor falls.
This kind of discrimination tends to break down:
It is expensive to the employer.
It leads to bigots being outcompeted. 30

31. Labor Market Discrimination
1. Discrimination by Employers
As employers compete for underpaid workers, wages will rise until they are close to marginal product for all workers.
As women move into higher paid sectors and delay having children, the wage gap between men and women decreases.
MLB PHOTOS/GETTY IMAGES
Jackie Robinson faced great discrimination but he was a profitable hire for the Brooklyn Dodgers in 1947. 31

32. Labor Market Discrimination
2. Discrimination by Customers
Sometimes customer preferences encourage business owners to discriminate.
It is often subtle, as when country clubs, restaurants, and others try to encourage “the right kind of customers.”
The decline of employer-based discrimination weakens customer-based discrimination.
Discrimination is also weakened by economic growth. 32

33. Labor Market Discrimination
3. Discrimination by Employees
Sometimes workers don’t want to mix with people from different groups.
Employers may find they have to pay other workers a higher wage.
It becomes cheaper to discriminate than to hire equally.
Discrimination of this kind can be self-reinforcing and difficult to identify. 33

34. Labor Market Discrimination
Discrimination by Government
Government sometimes is the part of the problem rather than part of the solution.
Apartheid system of South Africa. 34

35. Self-Check
Using information about group averages to make conclusions about individuals is called:
Preference-based discrimination.
Discrimination by employers.
Statistical discrimination.
Answer: c – this is called statistical discrimination.

36. Takeaway Wages are higher in wealthier countries because workers:
Work with more physical capital.
Have more education and training.
Work in a more efficient and flexible setting.
Compensating differentials explains why fun jobs pay less and dangerous jobs pay more.

37. Takeaway
Unions can raise some workers’ wages, but are not a fundamental reason for high wages.
At least two kinds of discrimination occur in labor markets - statistical discrimination and preference-based discrimination.
Markets tend to break down discrimination over time.