Mic 13

Microeconomics All Rights Reserved
© Oxford University Press Malaysia, 2008
13– 1

CHAPTER

13
Labour and Wages

13– 2

INTRODUCTION
Cobb-Douglas production model that shows the
relationship between inputs and outputs is
formalized by a production function of the form
Q = f (K,L,M), where
• Q represents the firm’s output of a
particular good during a period.
• K represents capital.
• L represents labour input.
• M represents raw material.
13– 3

FOUR FACTORS OF
PRODUCTION AND THEIR
PAYMENTS
• Land - Rent
• Labour - Wages
• Capital - Interest
• Entrepreneurship - Profit

13– 4

PAYMENT FOR FACTORS OF
PRODUCTION
• When a new Information Technology (IT) college is set up
to produce graduates for human capital specializing in IT,
it needs lecturers to teach IT courses (mental labour), the
physical space on which a college sit (land), a building,
class room furniture and teaching enable classroom
(capital), and the head of college or the CEO to manage
the college (entrepreneurship).

13– 5

TYPES OF DEMAND FOR
FACTORS OF PRODUCTION
Derived Demand
Firm’s demand for factors of production derived
from its decision to supply a good in another
market.
Joint Demand
Production needs more than one factor of
production.
13– 6

THEORY OF MARGINAL
PRODUCTIVITY
The demand for a factor depends on its
marginal revenue product. The greater the
productivity of the factor, the greater will be
the demand for that particular product,
ceteris paribus.

13– 7

CONCEPTS IN MARGINAL
PRODUCTIVITY
Total Physical product (TPP): The total
output produced by employing the factors of
production.
Marginal Physical Product (MPP): The
additional of total product as a result of
employing one more unit of a factor.

13– 8

PRODUCTIVITY (CON’T)
Total Revenue Product (TRP): Total revenue
gained by employing factors of production.
Marginal Revenue Product (MRP): The
additional total revenue as a result of
employing one more unit of an input. It is also
the demand curve of the factor and it is a
downward sloping because of the law of
diminishing return.

13– 9

PRODUCTIVITY (CON’T)
Monopolistic competition: MRP = MPP X MR
Perfect competition: MPP X P/AR/ MR
Marginal value product (MVP): Marginal
product of an input times the prices of the
output.
MVP = MPP X P
13– 10

DETERMINATION OF EQUILIBRIUM
PRICE OF A FACTOR

Labour markets are determined by the forces of
demand and supply.
The supply and demand for tomato pickers will
determine the price wage and the number of
tomato pickers.

13– 11

THE VERSATILITY OF DEMAND
AND SUPPLY
Supply and demand for
tomato pickers
determine the wage of
the tomato pickers

Panel (a) shows how the
supply and demand for
tomatoes determine the
prices of tomatoes

13– 12

THE VERSATILITY OF DEMAND
AND SUPPLY (CON’T)

Panel (b) shows how the
supply and demand for
tomatoes determine the wage
of the tomato pickers

13– 13

WAGES AND WAGE DIFFERENTIAL
According to the Oxford Dictionary of
Economics, wage is a payment for work
performed by an employee.
Wage differential is the difference in wage rates
between two types of worker. It may be on
account of different levels of skill, formal
qualifications, between unionized and non-
unionized firms, or between workers of different
age, sex, or ethnic groups.
13– 14

CHANGE IN WAGE RATE
Will change the motivation of individual to work
longer hours.
For example, with higher wage, people will
agree to work overtime, less entertainment or
leisure hours, or might retire later.
Positively sloped and positive relationship
between wage rate and labour supply.

13– 15

TERM OF WAGES

Nominal wages refer to the wage or salary in
terms of the particular currency of a country,
in case of Malaysia is RM.
Real wages refer to the purchasing power.
For example, if a singer earns RM5000 for
each concert, in terms of real wages it means
how much the singer can purchase with that
amount of income.
13– 16

DEMAND FOR LABOUR: THE
MARGINAL PRODUCTIVITY THEORY
Question: How many tomato pickers will be
employed by the owner?
The firm will answer this question by
weighing up the costs of employing an extra
labour against the revenue. In the labour
markets, the firm will maximize profits where
the marginal cost of hiring an extra worker
equals the marginal revenue that the
worker’s output earns for the firm.
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DEMAND FOR LABOUR: THE
MARGINAL PRODUCTIVITY
THEORY (CON’T)

The profit-maximizing approach
MC labour = MR labour

13– 18

MEASUREMENT OF MARGINAL
COST AND REVENUE OF LABOUR
Marginal factor cost (MFCL): The amount an
additional unit of variable unit (L) adds to the
total cost.
MFCL = ∆ Q TC/ ∆ L

Marginal revenue of labour (MRPL): The
amount an additional unit of the variable input
(L) adds to total revenue.
MFLL = MPPL X MPQ
13– 19

OPTIMAL USE OF VARIABLE
INPUT (L)

The optimal
level occurs at
the point where
the marginal
benefits are
equal to the
marginal costs.

13– 20

THE PROFIT MAXIMIZING LEVEL
OF EMPLOYMENT FOR A FIRM

• The profit
maximizing
level is at
point a.

13– 21

THE PROFIT MAXIMIZING LEVEL OF
EMPLOYMENT FOR A FIRM (CON’T)

Average and
marginal physical
product

13– 22

DERIVATION OF THE FIRM’S
DEMAND CURVE FOR LABOUR

Wage rate at three
different levels

13– 23

FACTORS THAT AFFECT
THE POSITION OF THE
DEMAND FOR LABOUR

• Wage rate
• Productivity of labour
• Demand for the good

13– 24

DERIVATION OF THE INDUSTRY
DEMAND CURVE FOR LABOUR
When more
workers are
being employed,
the total industry
output will
increase, and
hence P (and
MR) will be
pushed down

13– 25

LABOUR SUPPLY
Labour is provided to labour markets by
individuals who choose among available
employment opportunities.

A rational individual will refuse to work long
hours, take early retirement and choose to work
freelance.

13– 26

UTILITY MAXIMIZATION

A person
maximizes utility
by choosing H*
hours of leisure
and consumption
of C*

13– 27

THE OPPORTUNITY COST OF
LEISURE

People have to bear the cost for each
hour they do not work and it should be
the real wage.
Real wage is that people can turn their
earnings into actual consumer goods.

13– 28

INCOME EFFECT OF A CHANGE
IN THE REAL WAGE

Income Effect (IE): A rise in wage tends to increase
leisure. Since leisure is a normal good, the higher income
resulting from a higher w increases the demand for it.

13– 29

SUBSTITUTION EFFECTS OF A
CHANGE IN THE REAL WAGE
(CON’T)

Substitution Effect (SE): Effect of increase
in w on the hours of leisure is to reduce it.
As leisure becomes more expensive, there
is reason to consume less of it.

13– 30

EFFECT OF AN INCREASE
IN WAGE RATE
Figure 13.7 illustrates two different reactions to an
increase in w

13– 31

MARKET SUPPLY CURVE FOR
LABOUR
• Labour supply curves will always have
positive slopes if people are willing to assume
that in most substitution effects of wage
changes will be more important than income
effects.
• SE>IE

13– 32

Mic 13

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Editor's Notes