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Factors Market
$
Land (rent)
$
Labor (wages),
$
Capital (interest)
$
Entrepreneurship (profit)
Factors

Firms use the factors to produce the goods
and services. Central question of Economics
is the question of scarcity.

How much or many of a factor is very
dependent
 on
the demand for a product or
service
 Shifts of demand in the product
market industry will effect the
demand for the factor being used

Take what we have studied with production
theory and market structures apply to labor
market
Industry : Labor Market simply Supply and
Demand
Supply of workers or
The factor is the actual
Number of workers
seeking work.
Direct relationship betwee
Q and wage
Demand for the
Factor is derived demand
All the firms need for labor
Based on the demand for
their product
Indirect relationship
between Q and wage
Purely Competitive labor market

Supply simply is number of workers available
 Can
shift if wages in another increase change
can shift

Derived Demand for labor:
if the price of
the product changes or price of other factors change
 Machine or man which costs more
 Changes in labor productivity
 Tires up in the product market Shifts demand for
product

Demand for the factor (labor)/ non-price or wage
determinant
 Is the result of the elasticity of the product,
 ease of substitution
 the amount of time the firm has to change
production methods and materials
Labor industry

Market clears at equilibrium with no
shortages or surplus.


If wage above equilibrium more workers than
firms want= surplus
If wage below equilibrium, firm willing to hire
more but workers do not want to work

Wage determined at equilibrium and
quantity at equilibrium

Min. wage a price floor above

Causes lay offs, surplus of workers and
unemployment
Now the firm hiring workers


Four assumptions effect the behavior of
the firm and they do use marginal
analysis to set the wage and number
Many workers
 With identical skills: unskilled
 Total knowledge by firm and workers of
what the equilibrium wage should be
 Easy exit and entry of workers
Results

Firm is a wage taker

Therefore wage is horizontal and is
MFC---reason wage is constant,
 perfectly

elastic
MFC equals the supply of labor for
the firm since it perceives it can get
all the workers it needs at the
market equilibrium wage
Industry
labor market
The firm
S
W1
W1
SL = MFC
D
L1
Labor Input (workers per
week)
Labor Input (workers per
week)
Results

Firm is a wage taker

With no hiring power
 Firm
knows it does not need to hire
above the equilibrium
 Firm knows if it hires below
equilibrium the workers will go work in
another industry or for someone else
Productivity

Therefore using marginal analysis the
number of workers hired need to equal
the productivity of the workers to the
firm and their contribution to revenue
 MPP= output of the workers

MR= the contribution of hiring one more
worker and output

Therefore it’s the price of the product also in purely
competitive market structure
MPP X MR = MRP
or the firms demand for labor
Summary





Wage taker
No market power
Firm will hire where
MFC=MRP
Remember that
MRP=MPP x MR
 MFC is the firm’s
supply of workers
 MRP is the firm’s
demand for workers
based on their
productivity
• MRP = MFC
• Optimal number
of workers
Wage and MRP
per worker ($)
MFC < MRP
$4981
SL = MFC
MFC > MRP
MRP
12
Labor Input (workers per week)
Make connections: Efficient use of
resources

Should be where the
 Cost MFC ratio to mpp X mr (MRP) is equal for the use
of all resources or factors

Every firm wants to use its factors in a profit
maximizing combination were MR=MC


Least cost combination: true efficiency
And for the factors were the ratio of
mrp/wage=mrp=rent=mrp/interest=mrp/profit

Cost minimization
MPP of labor MPP of captial MPP of land
=
=
price of labor price of capital price of land
Purely competitive Factors
market
Industry labor
market
The firm
S
W1
W1
SL = MFC
D
L1
Labor Input (workers per week)
Labor Input (workers per week)
Now line it up with purely
competitive product market
Initial market conditions
MC
S
ATC
Pe
d = MR
Break-even
D
Qe
Quantity of Wheat
(industry)
qe
Quantity of Wheat
(firm)
Now what if nonprice determinants effect the
product market
European crop failure increases U.S. Demand
MC
S1
ATC
P2
P1
D2
D1
Q1 Q1
Quantity of Wheat
(industry)
Higher price creates
economic profit
q1 q2
Quantity of Wheat
(firm)
Is the product market related to the factors
market

Shifts of demand will effect DD and
cause DD to shift right or left influencing
wage and the firm’s MFC

Changes in the productivity of labor,
wages will effect the supply curve up in
the product market resulting in higher or
lower prices. This then effects the
factors market DD

Remember to shift MRP if mpp or mr
effected
New profits in the product market
Economic profit attracts new firms
Price fall to break-even
MC
S1
S2
ATC
P1
D2
D1
Q1
Quantity of Wheat
(industry)
q1
Quantity of Wheat
(firm)
MRP = MFC
Figure 27-1, Panel (a)
How to find MRP
Labor Input
Total
Physical
Product
(TPP)
6
882
7
1,000
8
1,111
9
1,215
10
1,312
11
1,402
12
1,485
13
1,561
Marginal
Physical Product
(MPP)
Marginal
Revenue Product
(MRP) (MR = $6)
118
$708
111
$666
104
$624
97
$582
90
$540
83
$498
76
$456
What if the firm has power





Monopoly=1 firm with unique product
Monopsony is a firm that hires with power
It could control wage ==wage setter
It would hire fewer workers at lower wages
Assumptions would be different

Fewer workers
 With unskills –can be replaced
 Firm knows it has power to pay less
 Workers have a difficult time finding work with
someone else
Monopsony





The firm has hiring power
Many workers but one or several firms that
have power
Therefore industry derived demand
curve(downward sloping) is the Firm’s
The firms MRP or demand line is a function
of their power
The Wage line will move up from supply-just the opposite of MR derived from
Demand in the product market.
Wage Setter with power
Firm goes to
Mrp=mfc and
Looks down to
The lowest
Wage he can
pay
MFC moves upward
Firm must pay more to hire more workers
Supply of all workers
PC wage
MRP is DD
For the firm
DWL unemployment welfare
MFC
dwl
Hiring Decision
Goes to MRP=MFC
Looks down
Pays less and hires
Fewer workers
Firm has the power
Monopsony and min wage
MFC