4.1.6.3 The determination of relative wage rates and levels of employment in perfectly competitive labour markets Flashcards
What are the key characteristics of a perfectly competitive labour market?
Many employers and workers
Homogeneous labour (workers have similar skills)
Perfect information
No barriers to entry/exit
Wage takers (no single firm/worker can influence wages)
How is equilibrium wage determined in a competitive labour market?
Where demand for labour (Dₗ) = supply of labour (Sₗ)
Determines equilibrium wage (W₀) and employment level (L₀)
Diagram: Intersection of downward-sloping Dₗ and upward-sloping Sₗ curves
What happens to wages if demand for labour falls (e.g., recession)?
Dₗ curve shifts left
In free market: W falls to W₁, employment falls to L₁
But real wages are ‘sticky’ (Keynes) - may not adjust immediately
How does raising retirement age affect wages?
Sₗ curve shifts right (more workers available)
Wage falls from W to W₁, employment rises to L₁
How do market forces determine relative wages?
Demand-side: Higher MRP jobs (e.g., doctors) → higher wages
Supply-side: Rare skills/low willingness to work → higher wages
Example: Software engineers earn more than retail workers due to skill scarcity
Why are wages ‘sticky’ in real markets?
Minimum wage laws prevent downward adjustment
Contracts/trade unions resist wage cuts
Psychological factors: Workers resist nominal wage cuts
Result: Firms lay off workers instead of cutting wages during recessions
How does minimum wage affect competitive labour market?
If minimum wage > equilibrium wage:
Creates surplus of labour (unemployment)
But may increase incomes for low-wage workers
Why are real labour markets imperfectly competitive?
Monopsony power (e.g., one large employer in town)
Skill differences (labour isn’t homogeneous)
Information gaps (workers don’t know all job options)
Immobility (geographical/occupational barriers)
Draw equilibrium in a competitive labour market. Label:
Downward-sloping Dₗ (MRP)
Upward-sloping Sₗ
Equilibrium at intersection (W₀, L₀)
Why do bankers earn more than teachers?
Higher MRP (bankers generate more revenue)
Limited supply (few have required skills/risk tolerance)
Non-monetary factors: Teaching has higher job satisfaction
How could government increase wages for low-skilled workers?
Minimum wage (but risk unemployment)
Training subsidies (↑ skills → ↑ MRP → ↑ Dₗ)
Union support (collective bargaining)
What did Keynes mean by ‘sticky wages’?
Wages don’t fall easily during recessions due to:
Contracts
Worker morale
Minimum wage laws
Leads to involuntary unemployment
