Chapter 16 - The Demand for Labour Flashcards
What is derived demand?
Where the demand for a factor of production or good derived not from the factor or good itself, but from the goods or services that it provides.
What is the marginal revenue product of labour?
The additional revenue received by a firm as it increases output by using an additional unit of labour input
What is the marginal revenue product theory?
Argues that the demand for labour depends upon balancing the revenue a firm gains from employing an additional unit of labour against the marginal cost of that unit of labour.
What are the factors affecting the position of the demand for labour curve?
There are a number of factors that determine the position of a firm’s labour demand curve. First, anything that affects the marginal physical product of labour will also affect the MRP-L. For example, if a new technological advance raises the productivity of labour, it will also affect the position of the MRP-L. In the graph you can see how the demand for labour would change if there were an increase in the marginal productivity of labour as a result of new technology. Initially demand is at MRP-L0, but the introduction of improved technology pushes the curve to MRP-L1. If the wage remains at W*, the quantity of labour hired by the firm increases from L0 to L1. Similarly, in the long run, if a firm expands the size of its capital stock, this will also affect the demand for labour.
As MRP-L is given by MPP-L multiplied by marginal revenue, any change in marginal revenue will also affect labour demand. In a perfectly competitive product market, this means that any change in the price of the product will also affect labour demand. For example, suppose there is a fall in demand for a firm’s product, so that the equilibrium price falls. This will have a knock-on effect on the firm’s demand for labour, as illustrated in the graph. Initially, the firm was demanding L0 labour at the wage rate W, but the fall in demand for the product leads to a fall in marginal revenue product (even though the physical productivity of labour has not changed), from MRPL0 to MRPL1. Only L1 labour is now demanded at the wage rate W. This serves as a reminder that the demand for labour is a derived demand that is intimately bound up with the demand for the firm’s product. This also suggests that the demand for labour will tend to increase during a boom period but fall during a recession.
A number of possible reasons could underlie a change in the price of a firm’s product — it could reflect changes in the prices of other goods, changes in consumer incomes or changes in consumer preferences. All of these indirectly affect the demand for labour.
How does ease of factor substitution affect elasticity of demand for labour?
One significant influence on the elasticity of demand for labour is the extent to which other factors of production, such as capital, can be substituted for labour in the production process. If capital or some other factor can be readily substituted for labour, then an increase in the wage rate (ceteris paribus) will induce the firm to reduce its demand for labour by relatively more than if there were no substitute for labour. The extent to which labour and capital are substitutable varies between economic activities, depending on the technology of production, as there may be some sectors in which it is relatively easy for labour and capital to be substituted, and others in which it is quite difficult.
In addition, capital tends to be inflexible in the short run. Therefore, if a firm faces an increase in wages, it may have little flexibility in substituting towards capital in the short run, so the demand for labour may be relatively inelastic. However, in the longer term, the firm will be able to adjust the factors of production towards a different overall balance.
Therefore, the elasticity of demand for labour is likely to be higher in the long run than in the short run.
How does share of labour costs in total costs affect elasticity of demand for labour?
The share of labour costs in the firm’s total costs is important in determining the elasticity of demand for labour. In many service activities, labour is a highly significant share of total costs, so firms tend to be sensitive to changes in the cost of labour. However, in some capital-intensive manufacturing activity, labour may comprise a much smaller share of total production costs.
How does the price elasticity of demand for the product affect elasticity of demand for labour?
These influences closely parallel the analysis of what affects the price elasticity of demand. However, as the demand for labour is a derived demand, there is an additional influence that must be taken into account: the price elasticity of demand for the product. The more price elastic is demand for the product, the more sensitive will the firm be to a change in the wage rate, as high elasticity of demand for the product limits the extent to which an increase in wage costs can be passed on to consumers in the form of higher prices.
What is labour productivity?
A measure of output per hour worked.
What are the main influences on labour productivity?
- The skills and training of the workforce
- The availability of complementary factor inputs (capital and technology)
- The organisation of the production process
What is unit labour costs?
The average cost of labour per unit of output
