Factor Markets and Distribution

 The Labor Markets

The labor market has undergone many changes in recent years. Advances in technology leading to greater automation, changes in the pattern of output, a growing need to be competitive in international markets and various social changes have all contributed to changes in work practices and in the structure and composition of the workforce. 

The key assumption of a perfect labor market is that:  Everyone is a wage taker

 ➢ Neither employers nor employees have any economic power to affect wage rates.

 ➢ As far as employees are concerned, being a wage taker means not being a member of a union and therefore not being able to use collective bargaining to push up the wage rate.

• Freedom of entry 

➢There are no restrictions on the movement of labor. 

▪ Homogeneous labor 

➢ It is usually assumed that, in perfect markets, workers of a given category are identical in terms of productivity.

 ▪ Perfect knowledge 

➢ Workers are fully aware of what jobs are available at what wage rates and with what conditions of employment.

Wage rates and employment under perfect competition are determined by the interaction of the market demand and supply of labour. 

(a) Individual employer (b) Whole market (c) Individual worker marginal disutility of work 

We can look at the supply of labor at three levels:

 1. the supply of hours by an individual worker 

2. the supply of workers to an individual employer 

3. the total market supply of a given category of labour

1. The Supply of Hours by an Individual Worker 

▪ Each extra hour worked will involve additional disutility. 

▪ The Marginal Disutility of work (MDU) will tend to increase as people work more hours. 

▪ There are two reasons for this. 

i. When people work they sacrifice leisure. 

• ➢ The less the leisure they have left, the greater the disutility they experience in sacrificing a further hour of leisure. 

ii. The work itself may be unpleasant. 

• ➢ the unpleasantness they experience in doing the job will tend to increase due to boredom or tiredness.

The Supply of Hours by an Individual Worker

 ▪ Each extra hour worked will involve additional disutility. 

▪ The Marginal Disutility of work (MDU) will tend to increase as people work more hours.

2. The Supply of Workers to an Individual Employer

 ▪ Under perfect competition, the supply of labor to a particular firm will be perfectly elastic. The firm is a 'wage taker' and thus has no power to influence wages.

 3. The Total Market Supply of a Given Category of Labor 

▪ The higher the wage rate offered in a particular type of job, the more people will want to do that job.

 ▪ The position of the market supply curve of labor will depend on the number of people willing and able to do the job at each given wage rate. – the number of qualified people – the non-wage benefits or costs of the job – the wages and non-wage benefits in alternative jobs. 

The demand for labor: the marginal productivity theory

Marginal productivity theory is the theory that the demand for a factor depends on its marginal revenue product. 

• The traditional 'neoclassical' theory of the firm assumes that firms aim to maximise profits. 

• The same assumption is made in the neoclassical theory of labour demand. This theory is generally known as the marginal productivity theory.

▪ The Profit-Maximising Approach

 ➢ How many workers will a profit-maximising firm want to employ?

 ➢In the labor market, the firm will maximize profits where the marginal cost of employing an extra worker equals the marginal revenue that the worker's output earns for the firm: 

MC of labor = MR of labor. 

MC = MR

 ➢ If an extra worker adds more to a firm's revenue than to its costs, m the firm's profits will increase. ➢ As more workers are employed, diminishing returns to labour will set. 

Measuring the Marginal Cost and Revenue for Labour 

• Like the quantity demanded for goods in relation to prices, the quantity demanded for labor has an inverse relationship with wage rates. 

Demand for Labor

 1. Marginal Cost of Labour (MCL) – is the extra the extra cost of employing one more worker 

➢ The additional cost of employing one more person will simply be the wage rate: MCL = W. 

2. Marginal Revenue of Labour (MRPL) – is the marginal revenue that the firm gains from employing one more worker. MRP = MPPL  X MR L

Wages

Wage is the most important price of the productive resources. To most people, wage or salary is the only source of income

A Decency Threshold 

• ➢The Council of Europe defines low pay as anything below 60 per cent of a country's mean net (i.e. post-tax) earnings. It refers to this as the 'decency threshold‘ 

• Changes in relative wages over time 

• ➢Another approach to the analysis of low pay is to see how the wage rates of the lowest-paid workers have changed over time compared to the average worker. 

• Low pay in particular sectors/industries 

• Low pay tends to be concentrated in certain sectors and occupations. Sales, customer service workers, accommodation and food service workers are classic examples

• The growth in low pay 

• ➢A number of factors have contributed to the progressive rise in the size of the low-paid sector and the widening disparity between high- and low-income earners over the past 30 years.

 • Minimum wages

•  ➢Wage is the most important price of the productive resources. To most people, wage or salary is the only source of income. 
• ➢Minimum wages are used widely in developed countries and can be another way of defining low pay 
• ➢The government imposes minimum wage rates for various workers like those in the industrial and agricultural sectors. The objectives of such wage determination is the desire of the government to protect the interest of the low – income workers in relation to the increasing cost of living.