Chapter 15Wage Determination

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15-2

• Wages

• Price paid for labor

• Direct pay plus fringe benefits

• Wage rate

• Nominal wage

• Real wage

• General level of wages

Labor, Wages, and Earnings

LO1

15-3

Global Perspective

LO1

15-4

Role of Productivity

• Labor demand depends on productivity

• U.S. labor is highly productive

• Plentiful capital

• Access to abundant natural resources

• Advanced technology

• Labor quality

• Other factors

LO1

15-5

Real Wages and Productivity

• Long-run trend of real wages in the U.S.

Rea

l Wag

e R

ate

(Do

llars

)

Quantity of Labor

D1900

S1900

D1950

D2000D2020

S1950

S2000

S2020

LO1

15-6

Real Wages and Productivity

LO1

15-7

Competit ive Labor Market

• Market demand for labor• Sum of firm demand• Example: carpenters

• Market supply for labor• Upward sloping• Competition among industries

• Labor market equilibrium• MRP = MRC rule

LO2

15-8

($10)WC

($10)WC

Wag

e Ra

te (D

olla

rs)

Labor Market

Quantity of Labor

Wag

e Ra

te (D

olla

rs)

Individual Firm

Quantity of Labor

QC

(1000)

0 0

d=mrp

qC(5)

s=MRC

Competit ive Labor Market

LO2

D=MRP(∑ mrp’s)

S

e b

a

c

15-9

Monopsony Model

• Employer has buying power

• Characteristics

• Single buyer

• Labor immobile

• Firm is a “wage maker”

• Upsloping labor supply to firm

• MRC higher than wage rate

• Equilibrium

LO3

15-10

• Examples of monopsony power

Monopsony ModelW

age

Rate

(Dol

lars

)

Quantity of Labor

0

S

MRP

MRC

c

b

aWc

Wm

Qm Qc

LO3

15-11

Monopsony Power

• Maximize profit by hiring smaller number of workers

• Examples of monopsony power

• Nurses

• Professional Athletes

• Teachers

• Three union models

LO3

15-12

Demand Enhancement Model• Union model• Increase demand for union labor by altering price of other inputs

Wag

e Ra

te (D

olla

rs)

Quantity of Labor

Wu

Qc Qu

Wc

D1

D2

S

IncreaseIn Demand

LO4

15-13

Craft Union Model

• Effectively reduce supply of labor

• Restrict immigration

• Reduce child labor

• Compulsory retirement

• Shorter workweek

• Exclusive unionism

• Occupational licensing

LO4

15-14

Wag

e Ra

te (D

olla

rs)

Quantity of Labor

D

S1

Qc

Wc

S2

Wu

Qu

DecreaseIn Supply

Craft Union Model

LO4

15-15

Industrial Union Model

• Inclusive unionism• Auto and steel workers

Wag

e Ra

te (D

olla

rs)

Quantity of Labor

D

S

Qc

Wc

Wu

Qu Qe

a be

LO4

15-16

Wage Increases and Job Loss

• Are unions successful?

•Wages 15% higher on average

• Consequences:

• Higher unemployment

• Restricted ability to demand higher wages

LO4

15-17

Bilateral Monopoly Model

• Monopsony and inclusive unionism

• Single buyer and seller

• Not uncommon

• Indeterminate outcome

• Desirability

LO5

15-18

Bilateral Monopoly Model

LO5

Wag

e Ra

te (D

olla

rs)

Quantity of Labor

D=MRP

S

Qc

Wc

Wu

Qu=Qm

MRC

Wm

a

15-19

The Minimum Wage Controversy

• Case against minimum wage

• Case for minimum wage

• State and locally set rates

• Evidence and conclusions

LO6

15-20

Wage Differentials

LO7

15-21

Sa

Da

Sb

Db

Sc

Dc

Sd

Dd

W W

WW

Q

Q Q

Q0

0 0

0

Wa

Wb

Wc

Wd

Qa Qb

Qc Qd

(a) (b)

(c) (d)

LO7

Wage Differentials

15-22

Wage Differentials

• Differences across occupations

• What explains wage differentials?

• Marginal revenue productivity

• Noncompeting groups

• Ability

• Education and training

• Compensating differences

LO7

15-23

Wage Differentials

LO7

15-24

Wage Differentials

• Workers prevented from moving to higher paying jobs

• Market imperfections

• Lack of job information

• Geographic immobility

• Unions and government restraints

• Discrimination

LO7

15-25

Pay for Performance

• The principal-agent problem • Incentive pay plan• Piece rates• Commissions or royalties• Bonuses, stock options, and profit sharing• Efficiency wages

• Negative side-effects

LO8

15-26

Are CEOs Overpaid?

• U.S. CEO salaries relatively high

• Good decisions enhance productivity

• Limited supply, high MRP

• Incentive to raise productivity at all levels

• High salary bias by board members

• Unsettled issue