Copyright © 2009 Pearson Education, Inc. Chapter 3 The Demand for Labor

Copyright © 2009 Pearson Education, Inc.

Chapter 3

The Demand for Labor

Copyright © 2009 Pearson Education, Inc. 3- 2

Profit Maximization

Output Approach: Increase output if the additional revenue > additional cost until MR=MC

Input Approach: Hire inputs if the additional revenue > additional cost until MRP=MEI


Derived Demand Marginal Product (MP) Diminishing Marginal Returns Marginal Revenue (MR) Marginal Revenue Product (MRP) Marginal Expense of an Added Input

Important Definitions - Marginal Revenue Product


Important Definitions - Marginal Revenue Product

MP = Change in Output/Change in Input

MR = Change in Revenue/Change in Output

MRP = Change in Revenue/Change in Input

MRP = MP x MR (general case)

MRP = MP x P (competitive product market)

MEI = Change in Total Cost/Change in Input


Short-Run Demand for Labor

Assume:

1. Two inputs, capital and labor

2. Labor is variable and capital is Fixed

3. Both labor and final product marketsare competitive

4. MP of labor is diminishing


Table 3.1: The Marginal Product of Labor in a Hypothetical Car Dealership

(capital held Constant)



The Short-Run Labor Demand Curve

Based on the SR profit maximization criteria for hiring inputs, the labor demand curve for the firm can be represented by the MP curve or the MRP curve

If the labor and product markets are competitive, hire until:

MRP = MP x P = W (nominal wage) orMP = W/P (real wage)


Figure 3.1: Demand for Labor in the Short Run (Real Wage)


Table 3.2: Hypothetical Schedule of Marginal Revenue Productivity of

Labor for Store Detectives


Figure 3.2: Demand for Labor in the Short Run (Money Wages)


Long-Run Demand for Labor

Characteristics of Isoquants:

1. Although each isoquant represents a unique level of output,each point on an individual isoquant represents the same level of output

2. Isoquants have negative slopes

3. Isoquants are convex

4. The slope of an isoquant is called the Marginal Rate of Technical Substitution


Figure 3A.1: A Production Function


The Isoexpenditure Curve

Let: TE = wL + cK

w = wage, L = labor input, c = capital expense, K = capital inputand TE = Total expenditures on inputs

Then: K = TE/c - w/c x L

and the equation for isoexpenditure curve B is:

K = 1,500/20 - 10/20 x L

= 75 - .5L


Figure 3A.3: Cost Minimization in the Production of Q*

(Wage = $10 per Hour; Price of a Unit of Capital = $20)


Cost Is Minimized in the Long Run Where:

An isoexpenditure curve is tangent to an isoquant

MRTS = - MPL/MPk = - W/C orW/MPL = C/MPC, where

W = wage, MPL = marginal product of labor

C = capital expense, MPC = marginal product of capital


Substitutes in Production Complements in Production Gross Substitutes Gross Complements

Important Definitions - Multiple Inputs


Figure 3.3: Effect of Increase in the Price of One Input (k) on Demand for Another Input (j),

where Inputs Are Substitutes in Production


When Product Markets Are Not Competitive, The Profit Maximization Condition Becomes :

MRP = MP x MR = W

Because MR < P, the labor demand curve of a price maker in the product market lies to the left of the labor demand curve of a price taker in the product market.


Figure 3.4: The Market Demand Curve and Effects of an Employer-Financed

Payroll Tax


Figure 3.5: Payroll Tax with a Vertical Supply Curve

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Copyright © 2009 Pearson Education, Inc. Chapter 3 The Demand for Labor