lecture9 - Microeconomics I - Lecture #9, April 14, 2009 9...

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Microeconomics I - Lecture #9, April 14, 2009 9 D/S of/for Labor 9.1 Demand for Labor Demand for labor depends on the price of labor, price of output and production function. In optimum a firm employs so many units of labor (number of workers) so that the value of marginal product of labor equals the wage. Look at the following example: L TP MP P (MR) VMP w (MC) 1 30 4000 20 80000 60000 2 50 4000 16 64000 60000 3 66 4000 10 40000 60000 4 76 4000 4 16000 60000 5 84 4000 From the data in the table it follows that this firm should hire three employees. It is so because hiring third employee will increase the profit by 64 000 and the wage of the worker is lower - 60 000. If the firm hires one more worker the fourth worker would bring profit of 40 000 but his wage would have to be higher - 60 000. So profit maximizing firm would hire three workers. If wage decreases below 40 000 it would be optimal to hire four workers. If the wage increases above 64 000 it would be better to hire only two workers. In other words, the firm chooses to hire so many workers that the value of marginal product of labor equals wage: V MP L = MP L × P = w This situation is illustrated on the picture below. If the wage is w 0 that the optimal choice for a firm is to employ L 0 workers. The revenue is a shaded rectangle on the left picture below. 43
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If the wage increases the optimal level of labor decreases as the worker are more expensive to hire. The demand for labor is actually identical with V MP L curve. But only up to the point where wage becomes to high. If the wage is too high firm will stop hiring any workers because the wage is higher than average revenue from a unit of labor which means that the firm is losing money. In this case it’s better to stop production. Look at the right picture above. This is the case if wage is higher than maximal level of V AP L , i.e. the point where V MP L crosses V AP L . Up to now we analyzed short-run demand for labor. In short-run all factors of production apart from labor are fixed. Now we will analyze the demand for labor in long-run. In long-run all factors of production can be changed. The intuition is the same - if wage increases a firm will hire less workers. The difference between short- and long-run is the motives for this change. In short run decreasing demand for labor is caused be decreasing revenue from marginal product of labor. In long-run decreasing demand for labor is caused by substitution and production effect (similar to substitution and income effect in consumer optimization problem). This situation is depicted on the picture below. 9.2 Supply of Labor Individual supply of labor is the decision between leisure and consumption : We discussed the choice between two goods. Similarly, we can illustrate the choice between leisure and consumption. Leisure can be considered as a normal good. Loosely speaking the price of leisure is forgone earnings, i.e. money that consumer could earn if he spent time working instead
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lecture9 - Microeconomics I - Lecture #9, April 14, 2009 9...

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