3.5.3 Wage determination in competitive and non-competitive markets

Question 1

What is the equilibrium wage rate?

Answer 1

• The equilibrium market wage rate is at the intersection of the supply and demand for labour.
• Employees are hired up to the point where the extra cost of hiring an employee is equal to the extra sales
  revenue from selling their output

Question 2

What are the main causes of differentials in wages between occupations?

Answer 2

1. Compensating wage differentials – these might be a reward for risk-taking, working in poor conditions and
   during unsocial hours.
2. Reward for human capital – differentials compensate workers for (opportunity and direct) costs of human
   capital acquisition.
3. Different skill levels – market demand for skilled labour (with inelastic supply) grows more quickly than for
   semi-skilled workers.
4. Differences in labour productivity and revenue creation - workers whose efficiency is high and generate
   revenue for a firm often have higher pay.
5. Trade unions who might use their collective bargaining power – to achieve a mark-up on wages compared
   to non-union members
6. Artificial barriers to labour supply e.g. professional exams, migration controls
7. Employer discrimination - a factor that cannot be ignored despite many years of equal pay legislation in place

Question 3

What is the Gig Economy?

Answer 3

The Gig Economy is a labour market characterised by the prevalence of short-term contracts or freelance
work

Question 4

What are well known gig economy businesses?

Answer 4

Uber, Amazon, UberEATS, TaskRabbit, Hermes and Deliveroo.

Question 5

Explain how much of the UK works in gig economies and why there is a rapid growth in the gig economy.

Answer 5

• 4% of UK working adults aged between 18 and 70 are working in the ‘gig economy’ according to a recent
  report - equivalent to around 1.1 million people.
• Some of the rapid growth of the GIG economy can be traced to the impact of the last recession. Many
  employers now see short term contract work as a way of de-risking in an age of economic uncertainty.

Question 6

What are the benefits of the gig economy for businesses?

Answer 6

1. Reduces fixed costs – lower payroll expenses
2. Reduced investment – e.g. Uber drivers own their own vehicles
3. Flexibility in managing hours to expected demand for their products

Question 7

What are the benefits of the gig economy for workers?

Answer 7

1. Flexible hours / control over when to work
2. Ability to work from home (more autonomy)
3. A common way for people to earn extra income
4. Less risk of getting stuck in routine jobs

Question 8

What are the drawbacks of the gig economy for workers?

Answer 8

1. Doubts over the true flexibility of hours offered by employers
2. Lack of paid vacation/sick leave/employment rights
3. Job and income uncertainty make it harder to get a mortgage – many people are in precarious jobs
4. Inadequate investment in worker training
5. Workers bear most of the risk in their job – often incomes are lower for the self-employed

Question 9

What are the drawbacks of the gig economy as a whole?

Answer 9

1. Shrinking of the tax base will hit revenues
2. Reductions in road safety / more accidents e.g. from delivery drivers using un-licenced vehicles

Question 10

What are the possible microeconomic effects of an ageing population?

Answer 10

Changing patterns of consumer demand in markets / affecting profits of businesses in particular sectors Impact on housing market e.g. if people can live in their own homes for longer
Impact on labour market for different jobs - labour demand and labour supply consequences to consider

Question 11

What are the possible macroeconomic effects of an ageing population?

Answer 11

Impact on government welfare spending and future tax revenues e.g. NHS care
Impact on the rate of growth of productivity and long-term GDP growth
Impact on UK competitiveness if the median age continues to rise rapidly

Question 12

What are the possible microeconomic effects of robotics?

Answer 12

• Impact on productivity, costs and profits of firms/industries at cutting edge
• Impact on demand for, supply of labour in specific jobs and the real wages paid
• Impact on consumer welfare e.g. through lower prices, higher real disposable incomes, economic-wellbeing

Question 13

What are the possible macroeconomic effects of robotics?

Answer 13

Effects on employment & unemployment from extensive capital-labour substitution
Effects on competitiveness and exports and changing
patterns of trade
Effects on government finances e.g. if tax revenues from
employment fall

Question 14

What is net inward migration of labour?

Answer 14

The net flow of workers entering a country

Question 15

What are the possible microeconomic effects of a fall in net labour migration?

Answer 15

• Shortages of skilled labour e.g. in the National Health Service, construction
• Impact on demand for and prices of properties to buy and to rent
• Effects on dynamic efficiency e.g. with a brain drain of entrepreneurs / scientists

Question 16

What are the possible macroeconomic effects of a fall in net labour migration?

Answer 16

• Fall in net outflow of remittances - impact on UK current account of BoP
• Impact on employment and unemployment if aggregate labour supply contracts
• Consequences for economic growth and inflation e.g. from slower growth of AD + possible fall in LAS

Question 17

What are the factors behind trade union decline?

Answer 17

1. Impact of legislation that has reduced/removed many of their powers to engage in industrial action
2. Rise in flexible labour markets e.g. with short term contracts, zero hours, part time working, self-employment
3. De-industrialisation – there are fewer jobs in industries where unions tended to be stronger – e.g. less jobs in
   heavy manufacturing and many more in services
4. Impact of globalisation which has reduced the bargaining power of employees

Question 18

What are the key roles for trade unions?

Answer 18

• Protecting and improving the real living standards / real wages of their members
• Protecting workers against unfair dismissal (i.e. upholding employment rights)
• Promoting improvements in working conditions, work-life balance & related health and safety issues
• Promoting better workplace training and education, i.e. the accumulation of human capital
• Protection of pension rights for union members

Question 19

How do trade unions affect the supply of labour?

Answer 19

• Trade Unions may bid for employers to pay a premium wage above the normal competitive market wage.
• This might lead to an excess supply of labour and a contraction of total employment
• Unions will have more success in raising wages for members if demand for labour is relatively wage inelastic
• Unions also more influential when they represent a high % of all workers in a given industry/occupation
• Pay might also rise if unions and employers agree a pay deal based on better productivity

Question 20

Describe how trade unions use collective bargaining power to increase wages

Answer 20

Trade unions are better placed to
negotiate better pay for their
members when the wage elasticity of
demand for labour is low.
E.g. when it is costly or difficult for an
employer to replace labour with
capital if wages are pushed too high
and threaten operating profits.

Question 21

What are key evaluation points of trade unions and the labour market?

Answer 21

• Long term decline in union membership – which reflects the growing flexibility of the UK labour market
  including zero-hour contracts + decline of heavy industry and shrinking public sector
• Trade union influence on pay depends in part on trade union density in an industry and also the credible
  threat power they have with possible industrial action (e.g. London Tube drivers)

Question 22

What are zero hour contracts?

Answer 22

Zero hours contracts do not guarantee a minimum number of working hours each week. In the UK labour market,
people on “zero-hours contracts” are more likely to be young, part time, women, or in full-time education when
compared with others in employment.

Question 23

What are arguments in favour of zero hours?

Answer 23

1. Supporters of flexible employment contracts argue that they are good for businesses where demand and
   production is highly seasonal - for example in retailing, brewing, tourism and catering. Employing people on
   a zero-hour contract may allow businesses to better control their costs.
2. Zero-hours contracts might also benefit some people who want a high level of flexibility in choosing when
   they want to work.

Question 24

What are arguments against zero hours?

Answer 24

1. A counter argument is that zero-hour contracts have contributed to an increase in “in-work poverty” where
   people are not able to work enough hours each week (often at relatively low wage rates) to earn sufficient to
   avoid remaining in poverty and reliant on top-up welfare benefits.
2. Uncertain incomes also make it harder for people to be given loans, mortgages and mobile phone contracts

Question 25

What is the gender pay gap?

Answer 25

The gender pay gap is the measured difference between male and female earnings, usually expressed as a percentage of male earnings.

Question 26

Explain the underlying causes of the (persistent) gender pay gap

Answer 26

• Breaks from the labour market
  o When women take maternity leave to raise a family, it is harder to achieve promotion when reentering
  the jobs market.
  o Age at which many women take a break from the labour force is often the point when careers take
  off and wages rise at a fast pace
• Access to education: In many lower and middle-income countries, opportunity for women to take
  qualifications and gain experience is limited, this is affected by social norms and high fertility rates
• Patterns of employment: In developed countries:
  o Women are disproportionately represented in part time work
  o Many females are clustered in service jobs that pay less – e.g. clerical, caring, catering, cleaning
  o Many women work in vocations where wages are relatively lower
• Gender pay gap remains affected by continued employer discrimination
• Increased female participation rates in economies has increased the supply of labour which may have
  contributed to lower relative wages

Question 27

What are policies to improve mobility and incentives?

Answer 27

1. Providing access to better quality training within firms – a good example is the Workplace Levy
2. Better funding for technical / vocational education – a good example is the new T-level qualifications
3. Improving the affordability and reliability of transportation – e.g. using subsidies for bus & rail travel
4. Addressing chronic housing shortages / expensive rents – perhaps through a maximum rent
5. Creating a bigger difference between pay/earnings in work and welfare benefits for those without a job
6. Lowering the burden of direct taxes especially for families on low incomes to encourage work incentives
7. Raising the level of the statutory national minimum wage
8. Providing tax-free child care for all children aged 3 and over

Question 28

What is a minimum wage?

Answer 28

A minimum wage is a legally-enforced pay floor in the labour market.

Question 29

What does a minimum wage look like on a diagram?

Answer 29

The free market equilibrium wage is W1 with employment level of E1. If a minimum wage of W2 is introduced – other
factors remaining the same – employment contracts to E2 and the supply of labour expands to E3.

Question 30

How does the extent of the contraction of unemployment due to minimum wage depend on the level that the minimum wage is set?

Answer 30

If labour demand is inelastic, a higher minimum wage will cause only a limited contraction on the level of labour demand.

Question 31

What are the advantages of a higher minimum wage?

Answer 31

• Equity justification: Every job should give fair pay linked with skills/experience of an employee.
• Poverty reduction: A minimum wage boosts the take-home pay of thousands of lower paid workers
• Training: It encourages firms to up-skill their workers and can lead to higher labour productivity
• Incentives: Will improve incentives for people to look for paid work rather than stay on benefits
• Anti-discrimination: A way of tackling discrimination of low-paid female / younger workers

Question 32

What are the disadvantages of a higher minimum wage?

Answer 32

• Jobs: Higher minimum wage adds to the costs of employing workers and might cause higher unemployment
• Small businesses: Many smaller businesses struggle to make a profit - risk of a rise in business closures
• Training: There are better incentives for training than a minimum wage e.g. tax relief on apprenticeships
• Competitiveness: Might make many UK businesses less competitive in some global markets
• Inflation: Higher labour costs might cause higher inflation which lowers real incomes for households

Question 33

What are the advantages of a maximum price?

Answer 33

• Equity and fairness:
  o Ratio of pay of executives to ordinary workers has grown to unacceptable levels
  o Damages social cohesion when the super-rich see their pay and earnings soar
  o Shareholders are reluctant to impose controls on pay at the AGM, many are passive investors
• Bonus culture encourages short-term decision-taking rather than focusing on the long-term strategic
  direction of a business
• Huge levels of executive pay contribute to growing income and wealth inequality in society

Question 34

What are the disadvantages of a maximum price?

Answer 34

• Ceiling might prevent talented executives moving to the UK – high rate of pay is a price signal within the
  market
• Might lead to businesses re-locating overseas to countries with lower top-rate taxes
• Capping pay and bonuses could lead to rewarding executives in other ways e.g. using complex share options
• Introducing higher marginal income tax rates on top executive pay might be a better option than capping
• Caps of say 12 or 20 x the pay of the average worker will impact differently across industries e.g. average pay
  is low in the hotel industry compared to financial services in the City of London