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Chapter 18

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ECN 104
Tsogbadral Galaabaatar

ECN104 – Chapter 18 Notes Chapter 18 Notes • Questions o What determines a competitive firm’s demand for labour? o How does labour supply depend on the wage? What other factors affect labour supply? o How do various events affect the equilibrium wage and employment of labour? o How are the equilibrium prices and quantities of other inputs determined? • Factors of Production and Factor Markets o Factors of production: the inputs used to produce goods and services  Labour  Land  Capital: the equipment and structures used to produce goods and services o Prices and quantities of these inputs are determined by supply & demand in factor markets • Derived Demand o Markets for the factors of production are like markets for goods & services, except:  Demand for a factor of production is a derived demand – derived from a firm’s decision to supply a good in another market. • Two Assumptions o 1. We assume all markets are competitive.  The typical firm is a price taker • In the market for the product it produces • In the labour market o 2. We assume that firms care only about maximizing profits  Each firm’s supply of output and demand for inputs are derived from this goal. • Our Example: Farmer Jack o Farmer Jack sells wheat in a perfectly competitive market o He hires workers in a perfectly competitive labour market o When deciding how many workers to hire, Farmer Jack maximizes profits by thinking at the margin:  If the benefit from hiring another worker exceeds the cost, Jack will hire that worker o Cost of hiring another worker:  The wage – the price of labour o Benefit of hiring another worker:  Jack can produce more wheat to sell, increasing his revenue o The size of this benefit depends on Jack’s production function: the relationship between the quantity of inputs used to make a good and the quantity of output of that good • Marginal Product of Labour (MPL) o Marginal product of labour: the increase in the amount of output from an additional unit of labour  MPL = (Change in Output) / (Change in Labour) • The Value of the Marginal Product o Problem:  Cost of hiring another worker (wage) is measured in dollars  Benefit of hiring another worker (MPL) is measured in units of output o Solution:  Convert MPL to dollars o Value of the marginal product: the marginal product of an input times the price of the output  VMPL = value of the marginal product of labour  VMPL = P x MPL • Things that Shift the Labour Demand Curve o Changes in the output price, P o Technological change (affects MPL) o The supply of other factors (affects MPL)  E.g., If firm gets more equipment (capital), then workers will be more productive; MPL and VMPL rise, labour demand shifts upward • The Connection Between Input Demand & Output Supply o Recall: Marginal Cost (MC)  = cost of producing an additional unit of output  = (change in total cost) / (change in output), where total cost = TC, output = Q o Suppose W = $2500, MPL = 500 bushels o If Farmer Jack hires another worker  Change in total cost = $2500, Change in output = 500 bushels  MC = $2500/500 = $5 per bushel o In general: MC = W / MPL o Not
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