1. Chapter 19
Earnings and
Discrimination
© 2002 by Nelson, a division of Thomson Canada Limited

2. In this chapter you will…
•• Examine how wages compensate for differences
Examine how wages compensate for differences
in job characteristics.
in job characteristics.
•• Learn and compare the human-capital and
Learn and compare the human-capital and
signalling theories of education.
signalling theories of education.
•• Learn why wages rise above the level that
Learn why wages rise above the level that
balances supply and demand.
balances supply and demand.
•• Consider why it is difficult to measure the impact
Consider why it is difficult to measure the impact
of discrimination on wages.
of discrimination on wages.
•• See when market forces can and cannot provide
See when market forces can and cannot provide
a natural remedy for discrimination.
a natural remedy for discrimination.
•• Consider the debate over comparable worth as a
Consider the debate over comparable worth as a
system for setting wages.
system for setting wages.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 2

3. Earnings and Discrimination
•• Differences in Earnings in Canada today:
Differences in Earnings in Canada today:
– The typical physician earns about
– The typical physician earns about
$200,000 a year.
$200,000 a year.
– The typical police officer earns about
– The typical police officer earns about
$50,000 a year.
$50,000 a year.
– The typical farm worker earns about
– The typical farm worker earns about
$20,000 a year.
$20,000 a year.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 3

4. Earnings and Discrimination
•• What causes earnings to vary so much?
What causes earnings to vary so much?
– Wages are governed by labour supply
– Wages are governed by labour supply
and labour demand.
and labour demand.
– Labour demand reflects the marginal
– Labour demand reflects the marginal
productivity of labour.
productivity of labour.
– In equilibrium, each worker is paid the
– In equilibrium, each worker is paid the
value of his or her marginal contribution
value of his or her marginal contribution
to the economy’s production of goods
to the economy’s production of goods
and services.
and services.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 4

5. SOME DETERMINANTS OF
EQUILIBRIUM WAGES
•• Compensating differentials
Compensating differentials
•• Human capital
Human capital
•• Ability, effort, and chance
Ability, effort, and chance
•• signalling
signalling
•• The superstar phenomenon
The superstar phenomenon
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 5

6. Compensating Differentials
•• Compensating differential refers to a
Compensating differential refers to a
difference in wages that arises from
difference in wages that arises from
nonmonetary characteristics of different
nonmonetary characteristics of different
jobs.
jobs.
– Coal miners are paid more than others
– Coal miners are paid more than others
with similar levels of education.
with similar levels of education.
– Night shift workers are paid more than
– Night shift workers are paid more than
day shift workers.
day shift workers.
– Professors are paid less than lawyers
– Professors are paid less than lawyers
and doctors, who have similar amounts
and doctors, who have similar amounts
of education.
of education.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 6

7. Human Capital
•• Human capital is the accumulation of
Human capital is the accumulation of
investments in people, such as education
investments in people, such as education
and on-the-job training.
and on-the-job training.
•• The most important type of human capital
The most important type of human capital
is education.
is education.
•• Education represents an expenditure of
Education represents an expenditure of
resources at one point in time to raise
resources at one point in time to raise
productivity in the future.
productivity in the future.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 7

8. Human Capital
•• In general, workers with more human capital earn
In general, workers with more human capital earn
more, on average, than workers with less human
more, on average, than workers with less human
capital.
capital.
•• University graduates in Canada earn earn about
University graduates in Canada earn earn about
58 percent more than workers with a high school
58 percent more than workers with a high school
diploma.
diploma.
•• Education raises wages because
Education raises wages because
– firms (demanders of labour) are willing to pay
– firms (demanders of labour) are willing to pay
more for the highly educated because they
more for the highly educated because they
have higher marginal products.
have higher marginal products.
– Workers (suppliers of labour) are willing to pay
– Workers (suppliers of labour) are willing to pay
the costs of education only if there is a reward
the costs of education only if there is a reward
for doinf so.
for doinf so.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 8

9. CASE STUDY: The Value of Skill
•• Figure 19-1 shows that in the United States the
Figure 19-1 shows that in the United States the
ratio of the average earnings of university
ratio of the average earnings of university
graduates to the average earnings of high-school
graduates to the average earnings of high-school
graduates has grown steadily over time.
graduates has grown steadily over time.
•• In 1982, the U.S. university graduates earned 52
In 1982, the U.S. university graduates earned 52
percent more than high-school graduates; in
percent more than high-school graduates; in
1994, they earned about 75 percent more.
1994, they earned about 75 percent more.
•• The wage premium in Canada has not grown over
The wage premium in Canada has not grown over
this period. In 1982, university graduates earned
this period. In 1982, university graduates earned
about 60 percent more than high school
about 60 percent more than high school
graduates; in 1994 they earned about 57 percent
graduates; in 1994 they earned about 57 percent
more.
more.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 9

10. Table 19-1. The Ratio of University of University
Graduates to Earnings of High-School Graduates
Copyright©2004 South-Western

11. CASE STUDY (cont’d): The Value of Skill
•• Why the growing wage premium in the
Why the growing wage premium in the
U.S.?
U.S.?
– International trade has increased the
– International trade has increased the
demand for skilled labour.
demand for skilled labour.
– Increased computerization has caused
– Increased computerization has caused
the demand for skilled workers to rise
the demand for skilled workers to rise
and the demand for unskilled workers to
and the demand for unskilled workers to
fall.
fall.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 11

12. CASE STUDY (cont’d): The Value of Skill
•• Why is there no increase in the relative
Why is there no increase in the relative
earnings of Canadian skilled workers?
earnings of Canadian skilled workers?
– The relative supply of skilled workers
– The relative supply of skilled workers
has increased faster in Canada.
has increased faster in Canada.
– The relative supply of skilled labour has
– The relative supply of skilled labour has
kept pace with the increase in the
kept pace with the increase in the
demand for skilled labour. The earnings
demand for skilled labour. The earnings
gap between skilled and unskilled
gap between skilled and unskilled
labour has remained constant.
labour has remained constant.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 12

13. Ability, Effort, and Chance
•• Natural ability is important for workers in
Natural ability is important for workers in
all occupations.
all occupations.
•• Many personal characteristics determine
Many personal characteristics determine
how productive workers are and,
how productive workers are and,
therefore, play a role in determining the
therefore, play a role in determining the
wages they earn.
wages they earn.
•• Some people work hard; others are lazy.
Some people work hard; others are lazy.
We should not be surprised to find that
We should not be surprised to find that
those who work hard are more productive
those who work hard are more productive
and earn higher wages.
and earn higher wages.
•• Chance also plays a role in determining
Chance also plays a role in determining
wages.
wages.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 13

14. An Alternative View of Education:
signalling
•• Firms use educational attainment as a way
Firms use educational attainment as a way
of sorting between high-ability and low-
of sorting between high-ability and low-
ability workers.
ability workers.
– It is rational for firms to interpret a
– It is rational for firms to interpret a
college degree as a signal of ability
college degree as a signal of ability
because it is easier for a high ability
because it is easier for a high ability
person to earn a university degree.
person to earn a university degree.
•• It is similar to the signalling theory in
It is similar to the signalling theory in
advertisement.
advertisement.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 14

15. An Alternative View of Education:
signalling
•• There is now two views on education:
There is now two views on education:
– Human-capital theory
– Human-capital theory
– Signalling theory
– Signalling theory
•• Human-capital view: education makes
Human-capital view: education makes
workers more productive
workers more productive
•• Signalling view: education is correlated
Signalling view: education is correlated
with natural ability
with natural ability
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 15

16. An Alternative View of Education:
signalling
•• Predictions on policies:
Predictions on policies:
– Human-capital view: increasing
– Human-capital view: increasing
education levels for all workers will
education levels for all workers will
increase productivity and thereby
increase productivity and thereby
wages.
wages.
– Signalling view: education does not
– Signalling view: education does not
enhance productivity sor raising the
enhance productivity sor raising the
education level of all workers does not
education level of all workers does not
affect wages.
affect wages.
•• The truth lies somewhere between these
The truth lies somewhere between these
two extremes.
two extremes.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 16

17. The Superstar Phenomenon
•• Superstars arise in markets that exhibit the
Superstars arise in markets that exhibit the
following characteristics:
following characteristics:
– Every customer in the market wants to enjoy
– Every customer in the market wants to enjoy
the good supplied by the best producer.
the good supplied by the best producer.
– The good is produced with a technology that
– The good is produced with a technology that
makes it possible for the best producer to
makes it possible for the best producer to
supply every customer at a low cost.
supply every customer at a low cost.
•• There are no superstar carpenters because he or
There are no superstar carpenters because he or
she can only provide their services to a limited
she can only provide their services to a limited
market, all other things being equal.
market, all other things being equal.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 17

18. Above-Equilibrium Wages: Minimum-Wage
Laws, Unions, and Efficiency Wages
•• Why are some workers’ wages set above
Why are some workers’ wages set above
the level that brings supply and demand
the level that brings supply and demand
into equilibrium?
into equilibrium?
– Minimum-wage laws
– Minimum-wage laws
– Market power of labour unions
– Market power of labour unions
– Efficiency wages
– Efficiency wages
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 18

19. Above-Equilibrium Wages: Minimum-Wage
Laws, Unions, and Efficiency Wages
•• Unions
Unions
– A union is a worker association that
– A union is a worker association that
bargains with employers over wages
bargains with employers over wages
and working conditions.
and working conditions.
•• Strike
Strike
– A strike refers to the organized
– A strike refers to the organized
withdrawal of labour from a firm by a
withdrawal of labour from a firm by a
union.
union.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 19

20. Above-Equilibrium Wages: Minimum-Wage
Laws, Unions, and Efficiency Wages
•• Efficiency Wages
Efficiency Wages
– The theory of efficiency wages holds
– The theory of efficiency wages holds
that a firm can find it profitable to pay
that a firm can find it profitable to pay
high wages because doing so increases
high wages because doing so increases
the productivity of its workers. High
the productivity of its workers. High
wages may:
wages may:
•• reduce worker turnover.
reduce worker turnover.
•• increase worker effort.
increase worker effort.
•• raise the quality of workers that apply for
raise the quality of workers that apply for
jobs at the firm.
jobs at the firm.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 20

21. THE ECONOMICS OF
DISCRIMINATION
•• Discrimination occurs when the
Discrimination occurs when the
marketplace offers different opportunities
marketplace offers different opportunities
to similar individuals who differ only by
to similar individuals who differ only by
race, ethnic group, sex, age, or other
race, ethnic group, sex, age, or other
personal characteristics.
personal characteristics.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 21

22. THE ECONOMICS OF
DISCRIMINATION
•• Although discrimination is an emotionally
Although discrimination is an emotionally
charged topic, economists try to study the
charged topic, economists try to study the
topic objectively in order to separate myth
topic objectively in order to separate myth
from reality.
from reality.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 22

23. Measuring labour-Market Discrimination
•• Discrimination is often measured by looking at
Discrimination is often measured by looking at
the average wages of different groups.
the average wages of different groups.
•• Even in a labour market free of discrimination,
Even in a labour market free of discrimination,
different people have different wages.
different people have different wages.
•• People differ in the amount of human capital they
People differ in the amount of human capital they
have and in the kinds of work they are willing and
have and in the kinds of work they are willing and
able to do.
able to do.
•• Simply observing differences in wages among
Simply observing differences in wages among
broad groups—white and black, men and women
broad groups—white and black, men and women
—says little about the prevalence of
—says little about the prevalence of
discrimination.
discrimination.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 23

24. Measuring labour-Market Discrimination
•• Because the differences in average wages
Because the differences in average wages
among groups in part reflect differences in
among groups in part reflect differences in
human capital and job characteristics,
human capital and job characteristics,
they do not by themselves say anything
they do not by themselves say anything
about how much discrimination there is in
about how much discrimination there is in
the labour market.
the labour market.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 24

25. Discrimination by Employers
•• Firms that do not discriminate will have
Firms that do not discriminate will have
lower labour costs when they hire the
lower labour costs when they hire the
employees discriminated against.
employees discriminated against.
•• Nondiscriminatory firms will tend to
Nondiscriminatory firms will tend to
replace firms that discriminate.
replace firms that discriminate.
•• Competitive markets tend to limit the
Competitive markets tend to limit the
impact of discrimination on wages.
impact of discrimination on wages.
•• Firms that do not discriminate will be
Firms that do not discriminate will be
more profitable than those firms that do
more profitable than those firms that do
discriminate.
discriminate.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 25

26. CASE STUDY: Explaining the Gender Wage
Gap
Table 19-1. Ratio of female to male earnings by education
Education Female to Male Earnings ratio
Less than high school 69.1%
High school 78.4
Incomplete postsecondare 80.5
Postsecondare
79.4
diploma/certificate
Postsecondary degree 84.5
Overall 80.3
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 26

27. CASE STUDY (cont’d): Explaining the
Gender Wage Gap
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 27

28. CASE STUDY (cont’d): Explaining the
Gender Wage Gap
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 28

29. Discrimination by Customers and
Governments
•• Although the profit motive is a strong
Although the profit motive is a strong
force acting to eliminate discriminatory
force acting to eliminate discriminatory
wage differentials, there are limits to its
wage differentials, there are limits to its
corrective abilities.
corrective abilities.
– Customer preferences
– Customer preferences
– Government policies
– Government policies
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 29

30. Discrimination by Customers and
Governments
•• Customer preferences:
Customer preferences:
– If customers have discriminatory
– If customers have discriminatory
preferences, a competitive market is
preferences, a competitive market is
consistent with a discriminatory wage
consistent with a discriminatory wage
differential.
differential.
– This will happen when customers are
– This will happen when customers are
willing to pay to maintain the
willing to pay to maintain the
discriminatory practice.
discriminatory practice.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 30

31. Discrimination by Customers and
Governments
•• Government policies:
Government policies:
– When the government mandates
– When the government mandates
discriminatory practices or requires
discriminatory practices or requires
firms to discriminate, this may also lead
firms to discriminate, this may also lead
to discriminatory wage differentials.
to discriminatory wage differentials.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 31

32. Summary
•• Workers earn different wages for many
Workers earn different wages for many
reasons.
reasons.
•• To some extent, wage differentials
To some extent, wage differentials
compensate workers for job attributes.
compensate workers for job attributes.
•• Workers with more human capital get paid
Workers with more human capital get paid
more than workers with less human
more than workers with less human
capital.
capital.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 32

33. Summary
•• The return to accumulating human capital
The return to accumulating human capital
is high and has increased over the past
is high and has increased over the past
decade.
decade.
•• There is much variation in earnings that
There is much variation in earnings that
cannot be explained by things economists
cannot be explained by things economists
can measure.
can measure.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 33

34. Summary
•• The unexplained variation in earnings is
The unexplained variation in earnings is
largely attributable to natural ability, effort,
largely attributable to natural ability, effort,
and chance.
and chance.
•• Some economists have suggested that
Some economists have suggested that
more-educated workers earn higher wages
more-educated workers earn higher wages
because workers with high natural ability
because workers with high natural ability
use education as a way to signal their high
use education as a way to signal their high
ability to employers.
ability to employers.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 34

35. Summary
•• Wages are sometimes pushed above the
Wages are sometimes pushed above the
equilibrium level because of minimum-
equilibrium level because of minimum-
wage laws, unions, and efficiency wages.
wage laws, unions, and efficiency wages.
•• Some differences in earnings are
Some differences in earnings are
attributable to discrimination on the basis
attributable to discrimination on the basis
of race, sex, or other factors.
of race, sex, or other factors.
•• When measuring the amount of
When measuring the amount of
discrimination, one must correct for
discrimination, one must correct for
differences in human capital and job
differences in human capital and job
characteristics.
characteristics.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 35

36. Summary
•• Competitive markets tend to limit the
Competitive markets tend to limit the
impact of discrimination on wages.
impact of discrimination on wages.
•• Discrimination can persist in competitive
Discrimination can persist in competitive
markets if customers are
markets if customers are
– willing to pay more to discriminatory
– willing to pay more to discriminatory
firms,
firms,
– or if the government passes laws
– or if the government passes laws
requiring firms to discriminate.
requiring firms to discriminate.
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 36

37. The End
Mankiw et al. Principles of Microeconomics, 2nd Canadian Edition Chapter 19: Page 37