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Chapter 7

# EC306 Chapter Notes - Chapter 7: Economic Rent, Reservation Wage, Opportunity Cost

Department
Economics
Course Code
EC306
Professor
Jason Dean
Chapter
7

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Chapter 7 Wages and Employment in a Single Labor Market
LO1: THE COMPETITIVE FIRM’S INTERACTION WITH THE MARKET
We first examine the case in which the firm is a competitive seller of its output in the
prod- uct market and a competitive buyer of labour in the labour market. The firm is both
a price- and a wage-taker: it cannot influence either the product price or the wage rate.
Their supply schedules for a given homogeneous type of labour are perfectly elastic
(horizontal) at the market wage rate, Wc
The firms are wage-takers, not wage-setters, and consequently can employ all of the
labour they want at THIS market wage rate.
The demand schedules determine the level of employment in each firm: in this case, N1
and N2 units of labour
The demand schedules for labour in the two firms are the schedules of the value of the
marginal products of labour, defined as the marginal physical product of labour times the
price at which the firms can sell their products.
Only if the firms are selling the same output would their product prices have to be the
same; otherwise, p1* need not equal p2*.
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Chapter 7 Wages and Employment in a Single Labor Market
The market demand curve is the
summation of the demand curves of the
individual firms.
The market demand curve can be
obtained as follows.
For any specific wage rate, such as W0
in Figure 7.1, determine the quantity of
labor that each firm in the market would
wish to employ.
For the two firms depicted in Figures
7.1(a) and (b), these quantities are N0
1
and N0
quantities gives the total market demand
at that wage rate.
In summary, when the firm is a competitive buyer of labour, it faces a perfectly elastic
supply of labour at the market wage.
When the firm is a competitive seller of its output on the product market, it regards the
price at which it sells its output on the product market as fixed, and its derived demand
for labour schedule is the value of the marginal product of labour, defined as the marginal
physical product of labour times the fixed price at which the firm sells its output.
The intersection of the firm’s labour supply and demand schedules determines the
employment level of the firm for that particular type of labour.
This analysis was based on the long-run assumption that the firm could get all of the
labour it needed at the market-determined wage rate
Wages are determined elsewhere (In the aggregate labour market for that particular type
of labour.)
In the short run, however, even a firm that is competitive in the labour market may have
to raise its wages in order to attract additional workers This is referred to as dynamic
monopsony.
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Chapter 7 Wages and Employment in a Single Labor Market
In such circumstances, the
firm’s short-run labour
supply schedule could be
upward sloping, as Ss
In the short run, in order to expand its workforce so as to meet an increase in the demand
for labour from D to D”, the firm may have to pay higher wages, perhaps by paying an
overtime premium to its existing workforce, or by paying higher wages to attract local
workers within the community.
The resultant expansion of the workforce can be depicted as a movement up the short-
run supply curve in response to the new higher wage of Ws, occasioned by the increase in
the demand for labour from D to D’.
Due to wages higher than the market wages, there will be a supply influx of other
workers, which shifts the supply Ss to Ss’, depress the temporarily high, short-run wage
of Ws back to its long-run level Wc
Thus, the long-run supply of labour schedule to the firm, S1, can be thought of as a locus
of long-run equilibrium points
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