In this video you’ll learn how wages are determined in perfectly competitive markets.
After that, we’ll look at how changes in supply and demand impact equilibrium.
In the videos preceding this one, you’ve learned about how the supply and demand for
a perfectly competitive labour market are determined.
Now we’ll bring it all together to see how wages are determined.
This is very similar to the supply and demand graph you learned in AS but it corresponds
to the market for labour.
Very simply, the equilibrium wage rate and equilibrium quantity exist where the supply
of labour equals the demand for labour.
This graph has been drawn exactly how you should be drawing it in your notes as well
as on your exams.
Setup your axes as such then draw in a downward sloping demand curve and label it DL.
Next add in your supply curve and label it SL.
Then we draw a dotted line to the Y axis and call this wage rate W*.
Similarly, we drop down to the X axis and label that point Q*.
W* is the equilibrium wage rate and Q* represents the equilibrium quantity of labour.
Just like we did in AS for product markets, we are now going to analyse changes in supply
and demand in perfectly competitive labour markets.
Pay particular attention to how the diagrams are drawn and how the changes are described.
Being able to replicate how I do it will help you integrate diagrams more effectively into
your responses.
I’ve listed the demand shifters I covered in an earlier video here.
If you want to go back and review them again, find the video and then come back to watch
the rest of this one.
The factors that might cause the demand for labour to shift include:
A change in the demand for the good or service that labour is producing
A change in the price of the good or service that labour is producing
A change in the cost of capital relative to labour
Government regulation and subsidies Labour productivity
Suppose there is an increase in the demand for the final good that labour is producing.
This would cause an increase in the demand for labour, shifting the demand for labour
from DL to DL1.
I draw this in with an arrow and also add in the increase in the wage rate from W* to
W1.
The equilibrium quantity of labour employed in this market has risen from Q* to Q1.
Similarly, if the marginal revenue product falls due to a fall in the price of the product,
then the demand for labour across the industry would fall, shifting the demand for labour
from DL to DL1.
This would cause the equilibrium wage rate to fall from W* to W1 and equilibrium quantity
of labour to fall from Q* to Q1.
Similarly for supply shifters, go back and review the earlier video to understand why
exactly these factors would cause labour supply to shift.
For now I’ll list them out and refer to some as examples in the diagram that follows.
The supply shifters include:
Changes in demographics Changes in the retirement age
Net migration Taxation and benefits
Preferences towards leisure time Changes in non-pecuniary benefits
Barriers to entry Trade unions
Alternative opportunities for labour
Suppose this diagram represents the market for factory workers.
If there is large scale migration of unskilled workers to a country then this would increase
the supply of labour across many industries, particularly manufacturing.
This would lead to an increase the supply of labour from SL to SL1 and cause the equilibrium
wage rate to fall from W* to W1 and equilibrium quantity of labour to rise from Q* to Q1.
Suppose the wages in manufacturing rise, causing domestic workers to leave their jobs for work
in factories.
This would reduce the supply of domestic workers from SL to SL1 and result in an increase in
the wage rate from W* to W1 as well as a reduction in the quantity of labour from Q* to Q1.
Now that you’ve seen the changes in the diagrams, try to complete the table here.
In each situation you need to determine whether supply or demand will change, how it will
change and what impact that will have on the equilibrium wage rate and quantity of labour.
Give it a shot, pause the video and I’ll share the answers next.
In the first situation where the power of unions has been weakened,the amount of workers
who can enter the profession will increase.
This increases the supply of labour and causes the equilibrium wage rate to fall and the
equilibrium quantity of labour to rise.
Second, if society becomes more aware of these negative externalities, then it’s likely
their demand for coal will fall and thus the demand for workers in the industry will fall.
This will cause the equilibrium wage rate and equilibrium quantity of labour to fall.
Third, workers will find it more attractive to work in clean energy production and leave
their jobs in coal mining to work in clean energy production for higher wages and better
conditions.
This will cause the supply of labour in coal mining to fall, causing the equilibrium wage
rate to rise and equilibrium quantity of labour to fall.
Fourth, new technology will increase worker productivity and across the industry increase
marginal revenue product.
This would increase the demand for labour and cause the equilibrium wage rate and equilibrium
quantity of labour to rise.
If the legal working age is dropped from 18 to 17, then the supply of labour will increase
causing the equilibrium wage rate to fall as more workers compete for jobs and also
increase the quantity of labour.
Hopefully you’ve gotten all the answers right to the practice questions, but if you
didn’t leave a comment below and let’s try and figure it out together.
Also, do the same if you’re stuck on anything at all that was covered in this video.
That’s us done for now and I will see you in the next one!