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Revision presentation from 2012 on aspects of labour market failure
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Labour Market Failure
A2 Economics
Market Failure – The Labour Market
• What is market failure?
• The failure of the market mechanism to reach a socially efficient and equitable allocation of scarce resources
• Failure can lead to
– Welfare losses for society
– A misallocation of resources
– Worsening of economic performance
• Higher unemployment
• Slower growth
– Social problems – negative externalities
High marks at A2 for finding links between micro and macro topics!
The most important market in the economy?
Potential causes of market failure
• 1. Labour immobility and skills gaps
• 2. Disincentives to work – “traps”
• 3. Discrimination in the labour market
• 4. Monopsony power of employers
• There are other causes – but time only allows me to focus on these four and then on different options for government intervention
Labour immobility
• Occupational immobility– (i) Skills mismatch
– (ii) Loss of skills and motivation from long term unemployment
– (iii) Artificial barriers to entry
• Lawyers• Medics• Accountants
Geographical immobility
• (i) Regional house price differences
• (ii) Family and social ties
• (iii) Language barriers
• (iv) Differences in living costs
• Which is the world’s most expensive city to live in?
World’s most expensive cities in 2008
1. Moscow2. Seoul3. Tokyo4. Hong Kong5. London6. Osaka7. Geneva8. Copenhagen9. Zurich10.Oslo11.New York
Skills gaps
• Market often under-provides skills training
• The free-rider problem
• Lack of finance for people wanting to invest in ‘human capital’
Evaluation: Why does immobility matter?
• (a) Structural unemployment – has economic and social costs
• (b) Makes the labour market less flexible
• (c) Persistent labour shortages in some areas and surpluses in others– Creates inflationary pressures on wages
– Forces up the costs of infrastructure projects e.g. Olympics
– Depresses income in regions of high unemployment
– Hits the provision of public services e.g. NHS dentists
• (d) Rising inequality / relative poverty
• (e) Deepens the regional economic divide
• (f) Damages the potential output of the economy
Disincentives - Traps
• For many people there are deep-rooted disincentives to look for and accept paid work
• Poverty trap
• Unemployment trap• The two are linked …. And you wont be penalised for assuming that
they are the same!
Poverty Trap
• Earning extra income may have little positive effect on a person’s disposable income
– You earn more money…. But
1. Start paying income tax and national insurance
2. Start to lose income-related welfare benefits
3. Add in costs of childcare and travel to work expenses
• Result is that the effective marginal rate of tax might be very high (perhaps > 75%)
• Paradox: Poorer people face higher tax rates than the rich
• Consequences: Fewer people in work ►risk of poverty
Discrimination in the labour market
• Race
• Gender
• Height
• Weight
• Age
• Ethnicity
• Religion
• Sexual preference
• Other forms of discriminatory behaviour
Labour market discrimination
Discrimination
• Often reflects deep-seated prejudice– Glass-ceilings
• But also the result of information failures– Difficulties in measuring and monitoring people’s
contribution at the workplace
– So employers fall back on prejudice as a proxy
• Requires legislation and enforcement
• And changes in social values and tolerance
Using analysis diagrams in the exam
Employment of group A
Wage
MRPL
MRPL Dis
Lab Supply
We
Wd
EeEd
Using analysis diagrams in the exam
Employment of group A
Wage
MRPL
MRPL A
Lab Supply
Employment of group B
Wage
MRPL
MRPL B
Lab Supply
We
Wd
EeEd
We
Ee
Wm
Ew
Monopsony power
• Major (dominant) employers in an industry or a local town might use their ‘buying power’ to drive wages below a level that might exist in a more competitive market.
• Examples:
• Gang masters
• Public sector employers
• Employment agencies
• Major employer in a local town
• National health service
• Royal Mail
Monopsony analysis
Employment of labour (E)
Wage rate £
Marginal revenue product
Average cost of labour
Marginal cost of labour
E1
£180
£350
Workers may get paid less than their MRPL
Employment of labour (E)
Wage rate £
Marginal revenue product
Average cost of labour
Marginal cost of labour
E1
£180
£350
How a minimum wage might create jobs!
Employment of labour (E)
Wage rate £
Marginal revenue product
Average cost of labour
Marginal cost of labour
E1
£180
£350
How a minimum wage might create jobs!
Employment of labour (E)
Wage rate £
Marginal revenue product
Average cost of labour
Marginal cost of labour
E1
£180
£350
Pay Floor = £220Pay Floor
How a minimum wage might create jobs!
Employment of labour (E)
Wage rate £
Marginal revenue product
Average cost of labour
Marginal cost of labour
E1
£180
£350
Pay Floor = £220Pay Floor
E2
Government intervention & market failure
• Intervention justified because
1. Market failure causes loss of efficiency
2. On grounds of equity
3. Key evaluation is whether the intervention works!
Government intervention
• Policies to protect the rights of trade unions to be recognised at work
• Investment in education and training– Modern apprenticeships– Incentives to stay on in sixth form
• Legislation– National minimum wage– Immigration points system– Licensing of gang masters– Equal Pay Act and other laws to protect people’s rights at work
• Reform to taxation and benefits systems
• Measures to make housing more affordable
• In the exam
• Avoid being excessively political / extreme in your answers
• Always have costs and benefits of each policy to hand for evaluation
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