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Chapter-6 - CHAPTER-6 THE LABOR MARKET So far we have...

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CHAPTER-6: THE LABOR MARKET - So far we have assumed that households produce goods only by using their own work effort. In this chapter we assume that households supply their labor to firms in a labor market. - Let l s be the number of person-hours of labor services that a household supplies to the labor market during a period and receives a quantity wl s of labor income. - Each firm uses input l d to produce commodities. The quantity produces is given by: ) ( d s l f y = - Therefore, a typical firm’s profits can be described as below: d d d s wl l Pf wl Py ofit - = - = ) ( Pr - Note that since households own these firms, the profits of the firms accrue to the households via a stock market on which people buy and sell ownership rights on businesses. DEMAND FOR LABOR - Now let’s consider how firms determine their demand for the quantity of labor input to hire. There are tow effects of increasing the labor input on the firm’s profit. First an extra hour of work increases the output, ) ( d l f , by the marginal product of labor (MPL). Gross sales revenue therefore goes up by P.MPL. Second, the wage bill increases by the dollar wage rate, w . Profit rises on net with an increase in labor input if the value of labor’s marginal product, P.MPL , exceeds w . To maximize output a firm must expand employment up to the point at which the value of the marginal product just equals the wage rate, that is, until P.MPL=w . - Therefore, profit maximization implies the following condition: P w MPL / = - Note that the right side of the equation is the real wage .
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THE GAINS FROM EQUALIZING THE LABOR’S MARGINAL PRODUCT - Existence of a labor market ensures that the marginal products of labor across different firms are equalized. - Consider two separate regions (or firms) one of which has a better technology.
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