LABOR DEMAND

PROBLEM –

How does an employer decide how many people to hire?

How does an employer decide how many people to hire?

Basic Market Assumptions:         Firms want to maximize profits         Firms use (only) Labor and capital.         The only cost of hiring labor is the hourly wage         Labor and product markets are competitive        The firm is a price taker in both the Labor and

Output Markets Additional Assumption: Capital is Fixed

       We are in the Short-RUN

How does an Employer Decide on the Number of Employees to

Hire?

Marginal Analysis - (Recall from Principles of Micro) MR=MC

where MR – Marginal Revenue and MC – Marginal Cost

A Stepwise Manner Hiring the First worker, second, etc, until

MR=MC

How does an Employer Decide on the Number of Employees to Hire?

Another Equivalent Method: Hire as long as MRP >=Wage Where MRP is the marginal value of additional

workers MRP = P*MPL where P is the output’s price So What Determines MPL:

Not Personal Characteristics MPL depends on Capital (K) and Technology

Diminishing Marginal Returns (Diminishing Marginal Productivity)

How does an Employer Decide on the Number of Employees to Hire? NOTICE: is defined as profits = TR - TC

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 .1 4 4

2 10 6

3 15 5

4 18 3

5 20 2

6 19 -1

changemeanswhere

MPL

L

TP

How does an Employer Decide on the Number of Employees to Hire?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 . .1 4 4 100

2 10 6 150

3 15 5 125

4 18 3 75

5 20 2 50

6 19 -1 -25

MRP = MPL * P

How does an Employer Decide on the Number of Employees to Hire?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 . . 0

1 4 4 100 100

2 10 6 150 250

3 15 5 125 375

4 18 3 75 450

5 20 2 50 500

6 19 -1 -25 475

TR = TP * P

How does an Employer Decide on the Number of Employees to Hire?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 . . 0 100

1 4 4 100 100 160

2 10 6 150 250 220

3 15 5 125 375 280

4 18 3 75 450 340

5 20 2 50 500 400

6 19 -1 -25 475 460

TC = TFC + TVC

Where

TVC = L * w

TFC

TVC

How does an Employer Decide on the Number of Employees to Hire?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 100 -100

100 160 -60

250 220 30

375 280 95

450 340 110

500 400 100

475 460 15

π = TR – TC

Note that π is maximized when MRP = w or

MR = MC

How does an Employer Decide on the Number of Employees to Hire?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

-100 - -

-60 25 15.00

30 25 10.00

95 25 12.00

110 25 20.00

100 25 30.00

15 25 -60.00

TP

TRMR

ΔTP

ΔTVCMC

constant is TFC sinceΔTP

ΔTCMC

How does an Employer Decide on the Number of Employees to Hire?

Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 100 100 160 -60 25 15.00

2 10 6 150 250 220 30 25 10.00

3 15 5 125 375 280 95 25 12.00

4 18 3 75 450 340 110 25 20.00

5 20 2 50 500 400 100 25 30.00

6 19 -1 -25 475 460 15 25 -60.00

Maximum

Profit at

Hiring 4

workers

What does an Employer do when the price of Labor Decreases?

Now Assume market wage is $40 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 100 100 140 -40 25 10.00

2 10 6 150 250 180 70 25 6.67

3 15 5 125 375 220 155 25 8.00

4 18 3 75 450 260 190 25 13.33

5 20 2 50 500 300 200 25 20.00

6 19 -1 -25 475 340 135 25 -40.00

Maximum

Profit at

Hiring 5

workers

What does an Employer do when the price of Labor Increases?

Now Assume market wage is $80 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 100 100 180 -80 25 20.00

2 10 6 150 250 260 -10 25 13.33

3 15 5 125 375 340 35 25 16.00

4 18 3 75 450 420 30 25 26.67

5 20 2 50 500 500 0 25 40.00

6 19 -1 -25 475 580 -105 25 -80.00

Maximum

Profit at

Hiring 3

workers

How does an Employer Decide on the Number of Employees to Hire?

Conclusion:

As Wages Decrease the Number of Workers Hired __________.As Wages Increase the Number of Workers Hired __________.

increases

decreases

How does an Employer Decide on the Number of Employees to Hire?

Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 100 100 160 -60 25 15.00

2 10 6 150 250 220 30 25 10.00

3 15 5 125 375 280 95 25 12.00

4 18 3 75 450 340 110 25 20.00

5 20 2 50 500 400 100 25 30.00

6 19 -1 -25 475 460 15 25 -60.00

Maximum

Profit at

Hiring 4

workers

What does an Employer do when the price of the Output Increases?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $33 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 132 132 160 -28 33 15.00

2 10 6 198 330 220 110 33 10.00

3 15 5 165 495 280 215 33 12.00

4 18 3 99 594 340 254 33 20.00

5 20 2 66 660 400 260 33 30.00

6 19 -1 -33 627 460 167 33 -60.00

Maximum

Profit at

Hiring 5

workers

What does an Employer do when the price of the Output Decreases?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $19 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 76 76 160 -84 19 15.00

2 10 6 114 190 220 -30 19 10.00

3 15 5 95 285 280 5 19 12.00

4 18 3 57 342 340 2 19 20.00

5 20 2 38 380 400 -20 19 30.00

6 19 -1 -19 361 460 -99 19 -60.00

Maximum

Profit at

Hiring 3

workers

How does an Employer Decide on the Number of Employees to Hire?

Conclusion:

As Price of Output Decrease the Number of Workers Hired __Decreases__. As Price of Output Increase the Number of Workers Hired __Increases__. 

How does an Employer Decide on the Number of Employees to Hire?

Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $100.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 100 -100 - -

1 4 4 100 100 160 -60 25 15.00

2 10 6 150 250 220 30 25 10.00

3 15 5 125 375 280 95 25 12.00

4 18 3 75 450 340 110 25 20.00

5 20 2 50 500 400 100 25 30.00

6 19 -1 -25 475 460 15 25 -60.00

Maximum

Profit at

Hiring 4

workers

What does an Employer do when the Fixed Cost Decreases?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $80.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 80 -80 - -

1 4 4 100 100 140 -40 25 15.00

2 10 6 150 250 200 50 25 10.00

3 15 5 125 375 260 115 25 12.00

4 18 3 75 450 320 130 25 20.00

5 20 2 50 500 380 120 25 30.00

6 19 -1 -25 475 440 35 25 -60.00

Maximum

Profit at

Hiring 4

workers

What does an Employer do when the Fixed Cost Increases?

Now Assume market wage is $60 per day and the (average) cost of a watch repair is $25 and total fixed cost is $120.

Watch Repairs

L TP MPL MRP TR TC π MR MC

0 0 - - 0 120 -120 - -

1 4 4 100 100 180 -80 25 15.00

2 10 6 150 250 240 10 25 10.00

3 15 5 125 375 300 75 25 12.00

4 18 3 75 450 360 90 25 20.00

5 20 2 50 500 420 80 25 30.00

6 19 -1 -25 475 480 -5 25 -60.00

Maximum

Profit at

Hiring 4

workers

How does an Employer Decide on the Number of Employees to Hire?

Conclusion:

As Fixed Cost Decreases the Number of Workers Hired __Remains Unchanged__. As Fixed Cost Increasesthe Number of Workers Hired __Remains Unchanged__.