Theories of Income Distribution

A.P. Microeconomics

Ms. McRoy

Aim Does the marginal productivity theory of

income distribution prove the reasoning for wage differentials?

“Do-Now” What is the marginal productivity theory of

income distribution, and what does it say?

Marginal Productivity Theory of Wage Distribution According to this theory, every factor of

production is paid the equilibrium value of its marginal product.

But what about the distribution of income for different types of labor within the labor market? Does this theory apply there?

Marginal Productivity and Wage Inequity Possible Explanations:

Compensating Differentials: wage differences across jobs that reflect that some jobs are more/less pleasant or dangerous than others.

E.g. a police officer in Chicago, IL earns a higher salary than a police officer in Hanover, IN.

Differences in Talent: wage differences based on the fact that people differ in their abilities.

E.g. a Michelin Star chef will earn more than one with no accolades.

Marginal Productivity and Wage Inequity (cont’d) Possible Explanations:

Differences in Human Capital: wage differences that are a result of differing education, experience, and training possessed by individuals.

E.g. A high school teacher with a Masters degree will receive a higher salary than one with only a Bachelors.

Market Power Unions: an organization of workers that

works to raise wages and improve working conditions for their members by bargaining collectively

Efficiency Wages Efficiency wages: when an employer

pays a wage above equilibrium as an incentive for better performance and loyalty. Typically emerges in situations where it is

difficult for the employer to supervise the employee and when it is costly to retrain new workers.

An efficiency wage typically acts like a price floor in that it creates a surplus of workers.

Discrimination Throughout history there has been

discrimination against workers for their race, ethnicity, religion, gender, or other characteristics. This is ILLEGAL!

According to some economists, basic supply and demand can fix this…

Discrimination (cont’d) Suppose that persons with the Type Z gene have

traditionally been a minority in the labor market, have suffered discrimination, and earn lower wages because of it.

According to some economists: Rational “bias-blind” employers would prefer to hire Z

workers who are equally productive but are less expensive.

In other words, VMPZ > WZ, so this employer will maximized profits by hiring more Type Z workers.

As this hiring continues, the market-wide demand for Type Z workers increases, increasing WZ and the wage differences are eliminated!

Discrimination (cont’d) An alternative arguments:

Minorities do not have equal access to the education and training that provide desirable characteristics in the labor market.

Or, there may be many employers in the majority group that simply have a strong dislike for particular minority groups that they will continue to pay higher wagers to workers they like, even if it is not the profit-maximizing decision!

Aim Does the marginal theory of income

distribution prove the reasoning for wage differentials?