3. Labour Economics Flashcards
Properties of indifference curves
- Each higher indifference curve corresponds to higher utility
- Indifference curves don’t intersect
- The slope is the MRS between consumption and leisure
- Convex shape
Equation for budget constraint
C=-wL+ (WLo+ R)
What is true at an interior solution?
W=MRS
Slope of BC and indifference curve are the same
If MRS>W at (Lo,R) what happens?
The person doesn’t work at all since the wage is lower than their reservation wage
If MRS
The person will work more
What happens to the reservation wage if non labour income increases?
The reservation wage increases
Describe the slopes of a laid back person and a workaholic
Workaholic has flat slope since they are willing to sacrifice a lot of leisure for a little extra consumption. Laid back person has steeper slope
Income effect
How a change in demand of a good is affected by a change in real disposable income. Wealthier following wage rise so consume more leisure
Substitution effect
How change in the demand of a good is affected by a change in price of that good. Higher wage means leisure is more expensive, as the opportunity cost is working
What do the income and substitution effect do when wages rise?
- income effect causes rise in leisure
* substitution effect causes fall in leisure
What is a convex function?
Any function where a straight line between any two points contained in the set stays contained in the set
Steps to solve a question with a non convex budget constraint
- Compute MRS
- Look for interior solutions on each section of the slope
- If there are no interior solutions, work out utility at kinks and see which one is largest, this is a solution. Remember there may be multiple solutions
What determines search frictions?
The state of the labour market
Efficiency of search process
What are the inefficiencies which explain why there are vacancies and unemployed people?
- unemployed are in different location to jobs
- unemployed have different skills than job
- information problems
What is the matching function?
It is a function which relates to the number of workers hired per unit time based on the two inputs of number of employed and number of vacancies
In a constant returns to scale cobb Douglas what is the homogeneity?
The function is homogeneous of degree r
Market tightness
The market tightness describes the state of the labour market with reference to unemployment and vacancies
What is the ratio of vacancies to unemployed people if the market is doing well?
There are lots of vacancies for every unemployed person
What is a desirable feature of the Cobb Douglas matching function?
Empirical tractability
What is a steady state?
A period when unemployment is constant
What is needed for there to be a steady state?
Outflow of unemployment must equal inflow of unemployment
What are the two ways the unemployment rate can be computed given a steady state
- from the stock- simply count the number of unemployed at period t in the data
- from the flow- compute the rate at which unemployed find and lose their jobs and compute Ut
What is the urn ball game?
There are two identical workers and two identical firms. Each firm can only employ one worker
Coordinated equilibrium of urn ball game
When the workers discuss with one another or move sequentially
If both wages are identical what is the strategy of both players?
They randomise between each job with probability 0.5 on each one
Congestion externality
The fact that A doesn’t know which job player B has applied for, this is an informational friction
If the wages are equal at both jobs what is the employment rate?
Employment =0.75
Why might the firm pay more than market clearing wage?
- increase health and therefore productivity
- inability to monitor workers effort- high wage makes losing a job a real punishment for low effort
- attract higher skilled workers
- high wages build loyalty among workers reducing turnover
What is necessary to prevent a worker from shirking
The payoff from exerting the required effort must be greater than the payoff from shirking
What do greater outside option imply about wages?
Higher outside options imply higher wages
What does the cost of effort imply about wages
The higher the cost of effort implies higher wages
How does the probability of being caught affect wages?
The higher the probability of being caught the lower the wages
In what industries are wages highest
Industries where
•workers have strong labour demand for their skill set
•it’s hard work
•individual output is hard to measure
When there is a trade union how do we find the equilibrium wage and labour level?
Create an extensive form game where the trade union offers any wage and for each wage the firm can either accept or reject? Use backwards induction to find equilibrium
