Theme 3 - Labour markets Flashcards
what is MRPL, and what does it tell firms
MRPL is the additional revenue generated by employing one more unit of labour, assuming all other factors remain constant. It is calculated as:
MRPL=MPL×MR
where:
MPL (Marginal Product of Labour) = Additional output from hiring one more worker
MR (Marginal Revenue) = Extra revenue gained from selling that additional output
tells firms how many people to employ at a given wage rate
limitations of MRPL
- its hard to measure productivity
- teamwork makes it difficult to measure individual productive
- the self employed
- we assume that we are working in a perfectly competitive market, may be the presence of monopsonies or trade unions
what is the elasticity of labour demanded
measures the responsiveness of labour demanded given a change in the wage rate
how does a change in the final price of the product shift the labour demand curve
Increase in Final Price of the Product → Higher Marginal Revenue Product (MRP) → Rightward Shift in Labour Demand
The demand for labour is derived from the demand for the final product it helps produce.
If the final price of the product increases, firms earn more revenue per unit sold.
This raises the Marginal Revenue Product (MRP) of labour, which is the additional revenue generated by hiring an extra worker.
As a result, firms are willing to hire more workers at each wage level, shifting the labour demand curve rightward.
how does the substitutability of capital for labour affect the elasticity of labour demanded
- When capital can easily replace labor, firms are highly sensitive to changes in labor costs.
- A rise in wages significantly increases labor costs.
- Firms respond by substituting labor with more cost-effective capital (e.g., machinery, automation
- This substitution results in a substantial decrease in the quantity of labor demanded, making labor demand more elastic (high responsiveness to wage changes).
how does the cost of labour affect the elasticity of labour demanded
- When labor costs are high, firms face significant pressure to manage expenses to maintain profitability.
- High labor costs incentivize firms to find alternative means of production, such as automation or outsourcing, to reduce reliance on expensive labor
- The ability to substitute labor with capital or other inputs means that a small increase in wages leads to a large decrease in the quantity of labor demanded, making labor demand more elastic
how does the time period affect the elasticity of labour demanded
- In the short run, firms have limited ability to make significant changes to their production processes or workforce
- Many factors of production, such as capital and contracts, are fixed and cannot be easily altered
- Due to these constraints, the quantity of labor demanded is relatively unresponsive to changes in wages, resulting in inelastic labor demand
LONG RUN:
- Over the long run, firms have more flexibility to adjust their production processes, invest in new technologies, and change their workforce size
- Firms can substitute labor with capital (e.g., automation) and implement more efficient production techniques
- These adjustments make the quantity of labor demanded more responsive to changes in wages, leading to more elastic labor demand
where is wage set (industry)(perfect competition)
where demand of labour = supply of labour
revenue maximisation on an MRP/ACl diagram
where MRP = MCl (marginal cost labour) or when MRP = wage
what is the occupational mobility of labour
the ability of labour to move from one occupation or job to another job
what is geographical mobility of labour
the ability of labour to move from one location to another in taking
micro advantages of an increase in nmw
Increased Worker Income
- Higher wages boost the disposable income of low-paid workers, improving their standard of living and reducing income inequality.
- Can stimulate consumption in the economy, benefiting local businesses and industries reliant on consumer spending.
Reduced In-Work Poverty
- An increased NMW lifts many low-income workers above the poverty line, reducing reliance on welfare benefits.
- Reduces government expenditure on welfare and improves worker morale and productivity.
Improved Worker Retention
- Higher wages can reduce staff turnover and increase job satisfaction, lowering recruitment and training costs for firms.
- Enhances labour market stability and firm productivity.
Promotes Fairness in the Labour Market
- Prevents the exploitation of workers by setting a wage floor, ensuring a minimum standard of compensation for labour.
- Encourages greater equity in income distribution and fosters social cohesion
Counterbalance to Monopsony Power
- In markets where employers have significant monopsony power, a higher NMW prevents exploitation and ensures fairer wages.
- Encourages a more competitive and equitable labor market, improving overall economic efficiency
micro disadvantages of an increase in nmw
Increased Costs for Businesses
- Higher wage bills raise production costs, particularly for labor-intensive firms. Small businesses or those with narrow profit margins may struggle to absorb these costs.
- Firms may pass on higher costs to consumers through increased prices, or may reduce output to cut costs
Potential Job Losses
- Firms may respond to increased wage costs by cutting jobs, reducing hours, or automating tasks to maintain profitability.
- Could lead to higher unemployment, especially among low-skilled or entry-level workers, as firms seek to optimize labour efficiency
Compression of Wage Differentials
- Raising the NMW can lead to a smaller gap between low-wage and higher-wage workers, potentially demotivating skilled workers or those seeking promotions.
- Can reduce productivity as workers feel their efforts are not appropriately rewarded.
Reduced Demand for Low-Skilled Workers
- Firms may prioritize hiring fewer but more productive workers to justify higher wages, side-lining low-skilled workers.
- Increases structural unemployment as displaced workers struggle to find roles suited to their skills.
Potential Reduction in Training Opportunities
- Firms facing higher wage costs may cut back on investment in employee training or development programs to save costs.(r&d) - eg Consulting giant PWC UK has paused its tech apprenticeship scheme to protect partner profits in
- Could harm long-term productivity growth and workers’ skill development.
macro advantages of an increase in national min wage
Boost to Aggregate Demand (AD)
- Higher wages increase disposable income for low-income households, who have a high marginal propensity to consume (MPC).
- Leads to increased consumer spending, stimulating economic growth and potentially reducing unemployment in the short term due to higher demand for goods and services
Reduction in Income Inequality
- Raising the NMW narrows the wage gap between low-income earners and higher-income individuals.
- Promotes social equity and reduces relative poverty, contributing to a more inclusive and cohesive society.
Increased Tax Revenues
- Higher wages lead to increased income tax revenues and National Insurance contributions for the government due to fiscal drag.
- Provides additional fiscal resources that can be used for public spending on infrastructure, education, or healthcare
Reduced Government Spending on Benefits
- With higher wages, fewer workers rely on welfare programs like housing benefits or tax credits.
- Alleviates pressure on public finances, allowing resources to be reallocated to other areas of the economy.
macro disadvantages of nmw
Reduced International Competitiveness
- Higher labor costs may make domestic goods and services less competitive compared to those from countries with lower wage levels.
- Could reduce exports, widen trade deficits, and discourage foreign direct investment (FDI).
Cost-Push Inflation
- Higher wages increase firms’ labour costs, leading to higher prices for goods and services to maintain profit margins.
- Could reduce the purchasing power of consumers and lead to inflationary pressures, particularly if wage increases are widespread across sectors
Risk of Higher Unemployment
- Firms may reduce hiring or lay off workers to manage increased wage costs, particularly in industries with tight profit margins.
- Could lead to higher structural or frictional unemployment, particularly for low-skilled or young workers who are more vulnerable in the labour market
Limited Effectiveness in Reducing Poverty
- Many low-income households may not benefit directly if the NMW increase leads to job losses or reduced hours.
- May fail to significantly reduce overall poverty levels, especially if inflation erodes real wages.
Reduced Investment by Firms
- Higher wage costs may leave firms with less capital to reinvest in research, development, or capital improvements.
- Could hinder long-term productivity growth and innovation, reducing potential GDP growth
What is market failure in labour markets
occurs when the labour market does not allocate labour resources efficiently
What are some current labour market issues?
Wage inequality: Growing disparities in wages between high and low-income earners.
Gig economy: The rise of short-term, freelance, and contract work, leading to concerns over job security, wages, and working conditions.
Skill shortages: Many sectors face skill shortages, especially in technology, healthcare, and engineering.
Unemployment: Persistent unemployment due to automation, globalization, or economic downturns.
Labour mobility: Issues related to workers’ ability to move geographically or between industries due to skills mismatch, housing constraints, or immigration laws.
general advantages of an increase in nmw
- Increased Income for Low-Wage Workers → Improved Standard of Living
Increased NMW → Higher disposable income for workers
→ Workers can afford better housing, healthcare, and education
→ This leads to an improved standard of living and overall well-being
→ Reduces financial stress, contributing to better mental health
→ Higher disposable income encourages workers to save more, ensuring financial security
→ Consumer confidence increases, boosting economic stability
→ Better living conditions contribute to a higher quality of life
→ Reduced reliance on government welfare programs due to increased self-sufficiency - Reduced Poverty and Income Inequality → Lower Government Welfare Spending
Increased NMW → Higher earnings for low-wage workers
→ Reduction in the poverty rate as workers can support themselves more effectively
→ This results in reduced demand for welfare programs (e.g., food stamps, housing benefits)
→ Governments face lower public expenditure on social benefits
→ With fewer people relying on welfare, there’s an increase in tax revenues from a larger tax base
→ Reduces income inequality, creating a more equitable economy
→ Lifts many people out of poverty, promoting social mobility
→ In the long run, this helps in building a more inclusive society, where all workers are compensated more fairly - Increased Worker Motivation and Productivity → Reduced Staff Turnover
Increased NMW → Higher wages for employees
→ Workers feel valued and more motivated to perform well in their roles
→ Increased job satisfaction leads to higher productivity in the workplace
→ Workers become more committed, contributing positively to company outcomes
→ Employee retention increases, reducing the costs of recruitment and training
→ Reduced turnover helps maintain a stable workforce, increasing the experience base
→ Longer-term employees contribute to a more skilled and efficient team
→ This creates a positive work culture and improves company morale - Positive Economic Stimulus → Increased Consumer Spending
Higher wages → Workers have more disposable income
→ This leads to higher consumer spending on goods and services
→ Increased demand stimulates economic growth by boosting aggregate demand
→ Businesses respond to higher demand by expanding operations and hiring more staff
→ Small and large businesses benefit from increased sales, driving job creation
→ As companies hire more workers, unemployment decreases, improving overall economic conditions
→ Increased spending leads to higher tax revenues for the government
→ Governments may reinvest the additional revenue into public services, benefiting the economy
→ Economic recovery can be accelerated during periods of downturn, due to increased consumption - Reduction in Income Inequality → More Fair Labor Market
Raising the NMW → Higher wages for workers in low-paid sectors
→ Reduces income inequality by narrowing the pay gap between the lowest and highest earners
→ A more equitable income distribution fosters a sense of social justice
→ Low-income workers feel more respected and empowered by their higher wages
→ Improved worker satisfaction leads to a more engaged workforce
→ Reducing inequality can create a more stable society, lowering the potential for social unrest
→ This can increase economic participation, as workers are more likely to invest in education and career growth
→ A fairer wage structure helps enhance social mobility, enabling individuals to escape poverty
→ Encourages fair labor market practices, where employees are compensated based on their contribution
Disadvantages of Increasing the National Minimum Wage (NMW): - Higher Costs for Firms → Potential for Increased Prices
Increased NMW → Higher labor costs for businesses
→ Firms may pass on these increased costs to consumers through higher prices
→ Cost-push inflation occurs, as the overall price level rises
→ Increased costs make essential goods and services (e.g., food, healthcare) more expensive for consumers
→ Higher prices can lead to a reduction in demand for products, particularly for price-sensitive consumers
→ Reduced consumer purchasing power may cause sales to drop
→ Small businesses, in particular, may struggle to absorb these costs, leading to financial strain
→ International competitiveness can be weakened, as domestically produced goods become more expensive compared to foreign alternatives
→ Businesses may reduce investment in innovation and growth due to the financial burden of higher wages - Potential for Job Losses → Reduced Employment Opportunities
Higher NMW → Increased labor costs for firms
→ Some businesses may reduce their workforce by laying off employees or reducing working hours
→ Businesses may also automate tasks that were previously done by low-wage workers, leading to job displacement
→ Unemployment rates for low-skilled workers could rise, as fewer entry-level positions are available
→ Employers may prefer to hire experienced workers over inexperienced ones, leaving younger and less skilled workers unemployed
→ Industries like hospitality and retail, which rely heavily on low-wage labor, may be particularly affected by job cuts
→ The youth unemployment rate could increase, as fewer opportunities for first-time workers are available
→ Layoffs or job freezes could become more common in businesses with tight profit margins
→ As firms reduce their workforce, overall unemployment may increase, negatively affecting the economy - Reduced Competitiveness of Small Firms → Risk of Business Closures
Raising NMW → Higher operating costs for small businesses
→ Small firms with limited financial resources may struggle to compete with larger businesses that can absorb higher costs more easily
→ Small businesses may face financial pressure, leading to reduced profit margins
→ Many small firms may need to increase prices to cover their additional labor costs, potentially reducing sales
→ Some small firms may choose to outsource jobs to countries with lower labor costs, resulting in a loss of domestic jobs
→ Unable to cope with rising wages, small businesses may be forced to shut down, reducing market competition
→ As smaller firms close, local economies may suffer from job losses and reduced economic activity
→ Local consumers may face fewer choices and higher prices, as large firms dominate the market
→ A decline in small business activity can harm community cohesion, as small firms often contribute to local development - Potential for Reduced Job Opportunities for Young or Inexperienced Workers
Higher NMW → Increased costs of employing low-skilled workers
→ Employers may become more reluctant to hire young or inexperienced workers, who may not justify the higher wages
→ With a higher wage bill, firms may choose to focus on hiring experienced workers instead, leading to fewer opportunities for newcomers to the job market
→ Youth unemployment may rise, as younger workers often occupy low-wage, entry-level positions
→ Companies may prefer to hire workers who already have the necessary skills or experience, leaving entry-level positions vacant
→ Internships or apprenticeships that previously offered experience-building opportunities may be at risk
→ Fewer job opportunities for young workers could lead to skills mismatches, where youth struggle to enter the labor market at a competitive level
→ Long-term career prospects for young people could be hindered, as they miss out on early work experience
→ A higher NMW could create a barrier to entry for young workers trying to gain essential workplace experience
general disadvantages of increasing nmw
- Higher Costs for Firms → Potential for Increased Prices
An increase in the NMW raises the cost of labor for businesses, particularly those in labor-intensive sectors.
To maintain profitability, firms may pass on these higher labor costs to consumers in the form of higher prices for goods and services.
Cost-push inflation can occur, leading to an overall increase in the general price level, which erodes the purchasing power of consumers.
Essential goods and services such as food, healthcare, and housing may become more expensive, hurting low-income households.
Higher prices may reduce demand for products, especially for price-sensitive consumers, leading to a potential reduction in sales.
Increased prices can make it harder for firms to compete, particularly small businesses that lack the ability to absorb higher labor costs.
Higher prices can make the economy less competitive internationally, as domestic goods become more expensive relative to foreign alternatives.
In extreme cases, businesses may reduce production or even shut down if they cannot maintain profitability, leading to job losses.
For firms in competitive industries, the higher wages may lead to reduced profit margins, affecting their ability to reinvest in innovation or expansion. - Potential for Job Losses → Reduced Employment Opportunities
With higher wage costs, firms might find it more expensive to hire as many workers, leading to potential job cuts or reduced hiring.
Some businesses may reduce their workforce by automating or outsourcing jobs to countries with lower labor costs.
Low-wage workers may find it harder to gain entry-level jobs, as firms may be reluctant to hire those without experience at the higher wage rate.
In sectors with low profit margins, like hospitality, employers may be forced to reduce the number of hours worked or eliminate jobs to maintain profitability.
Youth unemployment may rise, as younger workers (often employed in lower-paid, entry-level positions) face difficulties finding work at the higher wage rate.
Small businesses may be particularly vulnerable, as they are less likely to absorb the additional costs and might close down or scale back operations.
In certain sectors, the higher NMW could lead to higher unemployment rates as firms cannot afford to maintain staffing levels.
Firms in competitive labor markets may focus on hiring workers with more experience or skills, leaving younger or less skilled workers without opportunities.
Increased automation in response to labor cost increases could lead to a reduction in low-skilled jobs, reducing employment prospects for many. - Reduced Competitiveness of Small Firms → Risk of Business Closures
Small businesses with limited resources and lower profit margins may struggle to afford higher wages.
These businesses may have fewer opportunities to pass on wage costs through higher prices, leading to financial strain.
Increased wages could put smaller firms at a disadvantage compared to larger corporations that have economies of scale.
Some small businesses may be forced to reduce their workforce or close down entirely due to higher operational costs.
Local businesses may be outcompeted by larger firms that can better absorb the increased cost of labor.
High labor costs could push small businesses to relocate or outsource production to countries with lower wage expectations, potentially reducing domestic job creation.
As small firms close, there is less local economic activity, which could harm local communities that rely on small businesses for employment.
The loss of small firms could lead to reduced market diversity, with fewer options available for consumers.
Business closures can lead to a loss of jobs in local economies, further exacerbating unemployment. - Potential for Reduced Job Opportunities for Young or Inexperienced Workers
With higher labor costs, employers may prefer hiring more experienced workers who justify the higher wages with their skills and qualifications.
Young workers and those with limited work experience may struggle to find their first job, as employers may be less willing to take on new entrants into the workforce at the higher wage rate.
This could particularly affect industries that traditionally employ young people, such as retail or hospitality, where entry-level jobs are common.
A higher NMW could lead to greater competition for jobs, making it harder for young workers to find opportunities to gain work experience.
Employers might opt to hire older, more experienced workers, thereby increasing youth unemployment.
Higher wages could result in a longer wait for young or inexperienced workers to secure full-time employment, as companies may delay hiring.
This can also result in a lack of career progression for young people, as they find themselves in lower-paying or less fulfilling jobs.
For workers just entering the workforce, the combination of higher NMW and reduced job availability can result in career stagnation and lower lifetime earnings.
Internships or apprenticeships that previously offered entry-level opportunities may also be at risk if companies cannot afford to pay competitive wages.
reasons for wage differentials
- Differences in Skills, Education & Qualifications → Higher Productivity → Higher Wages
Jobs that require higher education, training, and specialised skills tend to offer higher wages because skilled workers increase productivity.
Employers are willing to pay a premium for workers with rare or valuable qualifications, leading to wage differentials between skilled and unskilled workers.
Over time, wage gaps widen as high-skilled jobs grow in demand while low-skilled jobs become more automated or outsourced.
Example: A doctor with over a decade of medical training earns significantly more than a fast food worker, due to the specialist knowledge and responsibility involved.
- Industry & Sector Differences → Higher Revenue & Profitability → Higher Wages
Some industries are more profitable than others, allowing them to offer higher wages to attract the best talent.
High barriers to entry in some sectors (e.g., finance, tech) mean fewer skilled workers are available, increasing their bargaining power.
In contrast, industries with low profit margins (e.g., retail, hospitality) tend to pay lower wages, as firms cannot afford higher salaries.
Example: Workers in investment banking earn far more than retail assistants due to the profitability and high productivity of financial services.
- Geographical Factors → Differences in Cost of Living → Regional Wage Variations
Wages are often higher in areas with high living costs, as firms need to attract workers to expensive locations.
Labour shortages in certain regions can also push wages up, as firms compete for a smaller pool of workers.
In contrast, areas with high unemployment see lower wages, as workers accept lower pay due to fewer job opportunities.
Example: London-based jobs tend to pay more than those in Northern England because of higher housing costs and demand for labour in the capital.
- Trade Union Power → Collective Bargaining → Higher Wages for Some Workers
Trade unions can negotiate higher wages for their members by using collective bargaining.
This can lead to wage differentials between unionised and non-unionised workers, even in the same industry.
However, union power has declined in many countries, leading to weaker wage growth for certain workers.
Example: Train drivers in the UK (represented by strong unions) earn significantly more than bus drivers, despite similar skill levels.
- Discrimination in the Labour Market → Wage Gaps Between Demographic Groups
Gender, race, and age discrimination can lead to unequal pay, even for workers with the same qualifications and productivity.
Some groups may face barriers to promotion or be concentrated in lower-paid jobs, leading to systemic wage gaps.
Governments may introduce minimum wage laws or equal pay regulations, but gaps can persist due to unconscious bias or employer practices.
Example: In many industries, women still earn less than men for the same role, partially due to historical biases and lower promotion rates.
- Monopsony Power → Suppressed Wages → Wage Differentials Between Competitive & Monopsony Markets
In a monopsony labour market, where there are few employers but many workers, firms can pay lower wages due to lack of competition for workers.
In contrast, in competitive labour markets, firms must offer competitive salaries to attract skilled employees.
This leads to wage differentials, even for similar jobs in different labour market structures.
Example: NHS nurses in the UK may earn less than private-sector nurses, as the NHS has significant monopsony power over healthcare employment.
arguments against lower trade unions leading to higher wage differentials
upcoming gig economies/zero hr contracts
- eg uber and self employed
trade union application points
UNISON has over 1.2 million members
GMB has over 617,00 members
- trade unions have more success in raising prices if the demand for labour is relatively wage inelastic
- unions more influential when union density is high
- pay may also rise if unions and employees agree a pay deal based on better productivity
evs for wage differentials
- Labour Supply and Demand → Wages Not Always Reflective of Market Forces
→ Some industries rely on government intervention, such as minimum wages or wage subsidies, which distort pure market-based wages.
→ Public sector jobs (e.g., teachers, nurses) often have wages set by the government rather than supply and demand.
→ Certain industries face inelastic labour supply, meaning even higher wages may not attract more workers (e.g., doctors, pilots).
→ Labour supply can be artificially restricted by professional licensing requirements, limiting wage competition.
→ Short-term labour shortages (e.g., due to sudden economic shifts) may not lead to sustained wage increases.
→ Monopsony employers (single large buyers of labor, like Amazon warehouses) can suppress wages despite high demand.
→ Automation and AI could reduce future demand for many jobs, even if wages rise temporarily. - Different Skill Levels → Skill Premiums May Decline Over Time
→ Over time, increased access to education can reduce wage gaps by making high-skill workers more abundant.
→ Technological advancements can reduce the need for highly skilled workers in some areas (e.g., AI replacing accountants).
→ Mismatch between education and jobs can lead to overqualification, reducing wage benefits of higher education.
→ Experience and on-the-job training can sometimes substitute formal education, reducing wage gaps between skill levels.
→ Government initiatives (e.g., free university education, apprenticeships) may help reduce wage inequality in the long run.
→ Global labor markets mean skilled workers from other countries may compete, reducing wages in previously high-paying jobs.
→ Union bargaining power in skilled professions can sometimes artificially inflate wages rather than reflecting true skill-based value. - Marginal Productivity of Labour → Productivity Doesn’t Always Determine Pay
→ Some high-productivity workers are underpaid due to lack of bargaining power (e.g., nurses, teachers).
→ Wage stickiness means that even when productivity rises, wages don’t always increase at the same rate.
→ Many high earners (e.g., CEOs, hedge fund managers) earn significantly more than their marginal productivity suggests, due to market imperfections.
→ Team-based work makes it hard to measure individual productivity, leading to unfair pay differences.
→ Some low-productivity sectors (e.g., entertainment, sports, social media influencers) can command high wages due to branding rather than productivity.
→ Global outsourcing means productivity improvements in one country may not lead to wage growth if jobs are moved elsewhere.
→ Government regulations (e.g., minimum wage laws) can prevent firms from fully using marginal productivity to set wages. - Trade Unions → Unions Can Distort Wage Differentials
→ Unionized workers may earn more than non-unionized workers, even if their productivity is the same.
→ Strong unions may create wage rigidities, preventing wages from adjusting to economic conditions.
→ Union wage premiums can lead to job losses, as firms may hire fewer workers or relocate to non-unionized regions.
→ Public sector unions can sometimes negotiate excessively high wages, leading to budget constraints for governments.
→ Declining union membership in many countries means union influence on wages is shrinking over time.
→ Unions tend to benefit insiders (long-term workers) more than outsiders (young or new workers), leading to labor market segmentation.
→ In some cases, union-negotiated wages may not reflect actual market demand, leading to inefficiencies. - Other Barriers to Labour Supply → Not All Barriers Are Permanent
→ Government policies can reduce barriers, such as funding for retraining programs or relaxed visa restrictions.
→ Technology (e.g., online education, remote work) is lowering traditional barriers to high-paying jobs.
→ Labour mobility is increasing, as workers migrate for better opportunities, reducing wage differentials over time.
→ Discriminatory barriers (e.g., against women or disabled workers) are being challenged by laws and social change.
→ Gig economy jobs offer alternative employment options, reducing dependency on traditional high-barrier jobs.
→ Some barriers (e.g., licensing in medicine and law) are necessary to maintain professional standards and protect consumers.
→ Informal job markets can sometimes allow people to bypass barriers, but at the cost of lower job security and benefits. - Employer Discrimination
→ Legislation (e.g., Equal Pay Acts) is reducing wage discrimination, though enforcement varies.
→ Blind hiring practices (e.g., removing names from CVs) can reduce employer bias in pay decisions.
→ Discrimination lawsuits and public pressure can force firms to improve wage equality. - Geographical Location → Wage Gaps May Shrink Due to Remote Work
→ Remote work is reducing geographical wage differentials, as employees from low-cost areas can access high-paying jobs.
→ High cost of living in certain areas (e.g., New York, London) means higher wages don’t always translate to better living standards.
→ Labour mobility improvements (e.g., better transport, migration policies) are making it easier for workers to move for higher wages.
→ Some regions specialize in certain industries** (e.g., Silicon Valley a global hub for tech)**, meaning wage gaps persist due to economic clustering.
→ Urbanization trends mean more workers are moving to high-wage areas, reducing wage gaps in the long run.
How MRPL determines wages in a competitive labour markets
1️⃣ Firms hire workers up to the point where MRPL = Wage Rate → Determines Equilibrium Wage
In a perfectly competitive labour market, firms are wage takers, meaning they cannot set wages but must accept the market wage.
Firms compare the wage rate to the MRPL of hiring an additional worker.
If MRPL > wage, hiring an extra worker is profitable, so firms increase employment.
If MRPL < wage, the firm is paying more than the worker’s contribution, so it reduces employment.
This ensures that in equilibrium, the wage rate equals MRPL.
Example: A car manufacturer calculates that each additional worker generates £30 per hour in revenue. If the wage rate is £25 per hour, they will hire more workers. If wages rise to £35, they may cut jobs.
2️⃣ Higher Labour Productivity → Higher MRPL → Higher Wages
If workers become more productive (e.g., through better training or technology), their MPL increases, boosting MRPL.
A higher MRPL means firms can afford to pay higher wages without losing profitability.
This explains why skilled workers earn more, as their productivity generates more revenue per hour.
Example: A software engineer with AI expertise contributes more to a firm’s revenue than a general IT technician, leading to higher wages for AI engineers.
3️⃣ Higher Product Prices → Higher MRPL → Higher Wages
If a firm’s product becomes more expensive (higher MR), then the MRPL increases, making it more profitable to hire workers at higher wages.
This explains why wages are higher in booming industries where demand and prices are rising.
Example: During a tech boom, wages for software developers rise sharply because their MRPL increases due to higher demand for software products.
4️⃣ Industry Differences in MRPL Explain Wage Differentials
Industries with high MRPL (e.g., finance, law, medicine) can afford to pay higher wages than industries with low MRPL (e.g., retail, hospitality).
This leads to wage differentials even for jobs requiring similar effort levels.
Example: A hedge fund manager may earn millions due to high MRPL in finance, while a cashier in retail earns much less because the MRPL is low.
5️⃣ MRPL Declines Due to Diminishing Returns → Limits Hiring & Wage Growth
As more workers are employed, each additional worker contributes less output (due to fixed capital/resources).
This means MRPL starts to fall, limiting the number of workers firms are willing to hire at any given wage.
As a result, wage growth may stagnate unless worker productivity increases.
Example: In a factory, hiring too many workers without increasing machinery leads to diminishing returns, reducing the MRPL and limiting wage increases.
when can we use MRPL/refer to MRPL
In a perfectly competitive labour market, as labour is homogenous, so all workers have the same MRPL
disadvantages of MRPL
1️⃣ Difficult to Measure MRPL → Can Lead to Wage Inefficiencies
In many jobs, worker productivity is hard to quantify, making it difficult for firms to calculate MRPL accurately.
This is especially true in service industries where output is subjective (e.g., teaching, healthcare).
As a result, wages may not always reflect true productivity, leading to inequities.
Example: A teacher’s MRPL is difficult to measure because the impact on students is long-term and non-monetary.
2️⃣ Automation & AI Can Distort MRPL → May Suppress Wages
Technological advancements can replace workers, reducing their MRPL and leading to lower wages or job losses.
Even if workers remain employed, automation reduces the value of human labour, making firms less willing to raise wages.
Example: Self-checkout machines reduce the MRPL of cashiers, keeping wages low or even eliminating jobs.
3️⃣ Market Power of Firms → Wages May Be Lower Than MRPL
In monopsony labour markets, where firms have significant hiring power, they may pay wages below MRPL.
Workers have limited alternatives, so they must accept lower wages, even if their productivity justifies higher pay.
Example: Large supermarkets may pay low wages to workers despite high MRPL because workers lack bargaining power.
4️⃣ Workers May Be Paid More Than MRPL Due to Wage Regulations
Minimum wage laws, trade unions, and government interventions can force wages above MRPL, leading to job losses.
If firms cannot afford the mandated wages, they may reduce employment or switch to automation.
Example: A high national minimum wage could result in fast food chains automating orders, reducing jobs despite workers’ potential MRPL.
5️⃣ Cyclical & External Factors Affect MRPL → Wage Volatility
MRPL depends on demand for a firm’s product, which fluctuates due to economic cycles.
During recessions, lower demand reduces MRPL, leading to wage cuts or layoffs.
This creates income instability, making wages based on MRPL unpredictable.
Example: Airlines cut pilot wages during economic downturns because fewer flights mean lower MRPL.
