Labor Economics Population, Participation Rates, Research Proposal

Excerpt from Research Proposal :

Source: McDonnel, B.M., Chapter 5, p. 130

Short-Run Demand for Labor: The Perfectly Competitive Seller

Under the conditions imposed by the perfect seller, meaning that the market is characterized by perfect competition, the marginal revenue product equals the value of the marginal product. This then means that the labor supplies decreases. The situation is best revealed by the chart below, which presents how the VMP and MRP curves, with their decreasing marginal productivity, generate a reduced demand for labor:

Source: McDonnel, B.M., Chapter 5, p. 136

Short-Run Demand for Labor: The Imperfectly Competitive Seller

This situation is the most common one in the actual market place and it basically means that each economic entity has the right to establish its retail price based on organizational determinants, unlike the case of the perfect competition, where the price is set by the market.

The demand for labor in this situation is directly linked to intense competition in the market and the strategies that derive from it, such as cost reduction, increased production or the creation of economies of scale. In the imperfect market then, the demand for labor will decrease as the marginal product decreases with every unit of employed workforce. The chart below reveals the scenario:

Source: McDonnel, B.M., Chapter 5, p. 142

The Long-Run Demand for Labor

Long-run estimations foresee that labor (as resource) and output are variable and attempt to see how labor demand changes in the given circumstances. It concludes that the demand curve follows a descendant trend. This is explained by the fact that a newly employed or recently fired individual, with the consequent changes in employees' wages, will generate a short-term effect on output and a long-term substitution effect. In some situations, a combined effect can occur. Both these forces, alongside with the demand for the product manufactured, technological advancements or relationship between workforce and capitals have the capacity to positively or negatively influence the demand.

The Market Demand for Labor

However identifying the market demand for labor would seem like a simple matter, it is fact hardened by the need to consider several constants as variables. In other words, what was constant within the organization, may easily be viewed as variable in the market context.

Source: McDonnel, B.M., Chapter 5, p. 149

Given that an organizational constant, but a market variable, such as the wage of the employee, decreases, the demand for labor will increase as economic entities will hire more to produce more. The retail price of the manufactured item will also decrease; the marginal revenue product will also follow a descendent trend.

Elasticity of Labor Demand

The previous parts of the chapter have concluded that the labor demand on the short-term is less elastic than the demand on the long-term. It now sets to identify the factors which influence this elasticity. The author finds them to revolve around the calculation of the elasticity coefficient (wage elasticity coefficient as a result of the percentage change in quantity of labor demand divided by the percentage change in the wage rate), the total wage bill rules, the elasticity of the item produced, labor costs in total costs, inputs and supply elasticity.

Determinants of Demand for Labor

The most important forces which influence labor demand are the productivity of the respective organization, the market demand for the respective product or service, the size of the staff employed by the organization or the prices of the commodities required in the manufacturing of the item. For the better understanding of the concepts presented, the chapter ends with examples from the real life.

Chapter 6 - Wage Determination and the Allocation of Labor

The aim of the sixth chapter is to respond to question relating to the factors which influence job distribution, as well as salary distribution.

Theory of Perfectly Competitive Labor Market

In the market driven by perfect competition, individuals often possess similar skills and register similar wages; they are motivated by the possibility to register higher revenues. If the wage is increased, the supply increases; if the wage is low, the demand increases, as revealed in the chart below:

Source: McDonnel, B.M., Chapter 6, p. 174

Numerous changes can occur and impact the status quo, but these are absorbed by the market and the equilibrium is reinstalled.

The job allocation is determined by the products manufactured, meaning that the organization will hire type a employees to maximize the profitability when the MPR equals MWC (marginal wage cost). The charts below reveal the efficient allocation of labor in a market driven by perfect competition:

Source: McDonnel, B.M., Chapter 6, p. 184

Wage and Employment Determination: Monopoly in the Product Market

In cases of monopoly, organizations strive to increase productivity and lower costs; they also lower the retail prices. In achieving their desiderates, they employ large numbers of individuals, but pay the low salaries. This leads to the conclusion that the marginal revenue product is inferior to the value of the marginal product, revealing as such shortages in efficiency.


This situation refers to the case when one, or more organizations, set uncompetitive wages. The assumption is that the labor force is homogenous and all individuals have free and easy access to information. The monopsonistic organization hires fewer employees and pays them lower wages than it would in a perfect or imperfect competitive market. The chart below reveals:

Source: McDonnel, B.M., Chapter 6, p. 189

Unions and Wage Determination

Some employees are part of unions, meant to protect their rights. These have the capability of increasing the paid wages by:

generating additional demand for labor:

Source: McDonnel, B.M., Chapter 6, p. 193 bargaining for above medium wages

Source: McDonnel, B.M., Chapter 6, p. 199 limiting labor supply:

Source: McDonnel, B.M., Chapter 6, p. 197

Bilateral Monopoly

The bilateral monopoly sees that a labor market fosters both a strong union as well as a monopsonistic organization. The outcomes are undetermined in the case when an employer is obliged to purchase labor from the monopolistic union. If the union however negotiates higher (yet decent) wages, the salaries will increase. The situation is presented in the chart below:

Source: McDonnel, B.M., Chapter…

Sources Used in Document:


McDonnel, B.M., 2008, Contemporary Labor Economics, 8th Edition, the McGraw Hill Companies

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