Lecture5-1 - ECON 301 LECTURE #5 Minimum Wages Another...

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1 ECON 301 – LECTURE #5 Minimum Wages Another labour market imperfection can arise through the imposition of minimum wages into an otherwise competitive labour market. In the early proliferation of minimum wages as a conceptual framework, it was thought of – and intended – as an appropriate policy instrument to alleviate poverty and to protect workers from exploitation. In the past few decades, researchers have determined that – theoretically, at least, - minimum wages reduce employment (or create unemployment) if the minimum wage floor is set above the competitive equilibrium wage. As for minimum wages reducing poverty, at least one researcher has determined that minimum wages in highly developed countries, like Canada, do not necessarily reduce the proportion of families in poverty rather they increase the proportion. If any of you are interested in my methodology and results, please come to my office and I’ll be happy to discuss my working paper with you in detail. For now, let’s focus on the low wage labour market and see how minimum wages can actually decrease employment (create unemployment)… L w D = MRP S = MC w* L* w min unemployment L DM L SM
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2 So, in the simple diagram above, we can see that at the competitive equilibrium the wage rate is w* and the employment level is L*…the market clears. Suppose the provincial government introduces minimum wage legislation and imposes a minimum wage of w min . Now, in this low wage market all firms must pay their workers w min > w*. This induces the firms to demand a lower quantity of labour (movement along the labour demand curve). Meanwhile, this policy induces workers to supply more of their labour into the market because of the higher wage (movement along the labour supply curve). As we can see in the diagram, firms will now demand L DM at w min and workers will supply L SM at w min . We know that only the labour demanded will be employed at w min so we have an excess supply of labour in this low wage market. The unemployment that the minimum wage policy creates is L SM – L DM . Slutsky Equation Hopefully, you were exposed to the Slutsky equation in ECON 201. For those who were not, we will do a brief review of the salient points of the formulation before we construct the equation using calculus. We want to investigate how a consumer’s choice of a good responds to a change in the price of the good. This response can be broken down into two effects that arise from a price change in the good, namely the substitution effect and the income effect. So, when the price of a good changes, there are two sorts of effects: The rate at which you can exchange one good for another changes, and the total purchasing power of your income is altered as a result of the price change. So let’s take the example of two goods X and Y.
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This note was uploaded on 03/28/2010 for the course ECON 301 taught by Professor Coreyvandewaal during the Winter '09 term at Waterloo.

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Lecture5-1 - ECON 301 LECTURE #5 Minimum Wages Another...

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