L23 imperfect labour

Topic 6: Imperfect Labour Markets

• Presented by: Luke Garrod

Aims of this Lecture

• Understand Imperfect Labour Markets where:

  • Employees and/or employers can be wage makers. This means they have some control over setting wages, unlike in perfect competition where wages are set by the market.

  • Wage Making Employers:

    • Few large relative to the market; e.g. monopsonists. A monopsony is like a monopoly, but for hiring labor. Imagine a small town with only one major employer. That employer has the power to set wages lower because workers have fewer options.

  • Wage Making Employees:

    • Unique talent or unionization leading to collective bargaining. Think of a famous athlete or a strong labor union. They can negotiate for higher wages because they have something employers want (unique skills or collective power).

• Objective: Investigate units of labour employed and the wage level in imperfect labour markets. We want to see how many people get hired and what they get paid when either the company or the workers have some power over wages.

Lecture Outline

1. Monopsony (with wage-taking sellers). This is when one company is the only buyer of labor. Imagine a single factory in a town – it has a lot of power over wages.

2. Union Monopoly (with wage-taking buyers). This is when a single union controls the supply of labor. They can set a minimum wage that employers must pay.

3. Bilateral Monopoly (both wage makers). This is when a single company (monopsony) faces a single union. They have to negotiate wages, and the outcome depends on who has more power.

• Reading Material:

  • Core: Lipsey & Chrystal, Chapters 9 & 10

  • Extra: Perloff, Chapter 15

Monopsony Assumptions

• Maintain assumptions from perfect labour markets:

  1. Firm operates in a perfectly competitive output market. This means the company sells its products in a market where it can't control the price. It's just one of many sellers.

  2. Firm and workers have complete information. Everyone knows what's going on in the market – wages, job availability, etc.

  3. Workers are wage takers. Individual workers can't negotiate for higher wages. They either accept the going rate or don't get hired.

  4. Free entry for workers. People can move to the town and look for work without restrictions.

• Change in Assumption: The firm is a wage maker in the labour market. This is the key difference. Instead of accepting the market wage, the company has the power to set it.

  • To employ more units of labour, the wage rate must increase; the labour supply curve slopes upwards. To hire more people, the company has to offer a higher wage to attract them.

Appropriate Market Structure

• Assumptions imply:

  • Many workers are equally productive; buyers and sellers are fully informed. This ensures we're looking at the effects of market power, not differences in skills.

• Size & Number of Sellers (Workers):

  • Many small (workers). Lots of individual workers who don't have much power.

  • One large (firm). A single, dominant employer.

• A small change in worker supply has little effect on wage due to its size relative to total.

• Size & Number of Buyers (Firms):

  • Many small (firms).

  • One large (buyer). The presence of one dominant buyer distinguishes a monopsony. This buyer's actions have a significant impact on the market.

• A large change by the buyer significantly affects market conditions.

Equilibrium under Monopsony

• Equilibrium determined by the Marginal Input Rule:

  • The monopsonist's supply curve aligns with the market's supply curve (upwards sloping). The company faces the entire market supply of labor, which slopes upward because they have to pay more to attract more workers.

  • Total Cost of Labour (TCL) is given by: TCL = wL This is simply the total amount the company spends on wages, where w is the wage rate and L is the number of workers.

  • Marginal Cost of Labour (MCL) is higher than Average Cost of Labour (ACL) due to:

    • Increases in wage for all employed units when one more unit is hired. When the company hires one more worker, it has to raise the wage for everyone, not just the new hire. This makes the cost of hiring that extra worker (MCL) higher than the average wage (ACL).

Discriminating Monopsony

• A monopsonist may pay different wages based on workers' willingness to accept (WTA). The company pays each worker the lowest wage they're willing to work for. This is like haggling over wages with each employee.

• Extreme Case:

  • Knowledge of each worker's WTA allows individual contracts. The company knows exactly how little each worker will accept and pays them just that amount.

• Impact on MCL:

  • Employing another unit raises wage only for that unit, hence MCL equals ACL for the extra unit. Because the firm only pays the new worker their WTA, the cost of hiring an additional worker (MCL) is equal to the wage paid to that worker (ACL).

Monopoly Union Assumptions

• Maintain previous assumptions plus:

  • Workers act as wage makers through union representation. Workers band together to negotiate wages as a group.

• Assumption of minimum wage set by the union affects market dynamics. The union sets a floor on how low wages can go.

Appropriate Market Structure for Unionization

• Assumptions imply many undifferentiated workers acting collectively due to union coordination. The union can restrict the supply of labor, affecting wage rates and employment levels.

• Market entry and actions heavily influenced by union power. The union's ability to act as a single entity is crucial for influencing market outcomes.

Monopoly Union Dynamics

• Upside: Unions benefit members by increasing wages. Unionization can lead to higher wages and better working conditions for union members.

• Downside: Higher wages can reduce total employment, particularly in wage-taking environments. If wages are raised above the competitive level, firms may reduce employment.

• Effects on Firms: Increased costs may lead to industry exit, reducing employment and raising output prices. Higher labor costs can make firms less competitive, leading to business closures and job losses.

Summary of Monopoly Union Dynamics

• Wage determined by the intersection of supply and demand.

• Employment decreases due to minimum wage enforcement by unions, creating unemployment among potential hires. The minimum wage set by the union can lead to a surplus of labor, resulting in unemployment.

Bilateral Monopoly Assumptions

• Maintain previous assumptions, modifying:

  • Both firm and workers as wage makers influencing the wage level. This is a scenario where both the buyer and seller have market power.

Bilateral Monopoly Dynamics

• No unique equilibrium wage; wage defined through bargaining power. The wage rate is determined by the relative bargaining strengths of the firm and the union.

• Employment can be stable despite minimum wage if well-managed. Effective negotiation and compromise can lead to stable employment levels even with union-set minimum wages.

Summary of Key Concepts

• When employers are wage makers and workers are wage takers:

  • The market has one employer competing for many equally productive workers. This describes the monopsony scenario.

• Short-run Impact: Wage does not reflect productivity (w < MRPL). In the short run, the wage rate is lower than the marginal revenue product of labor.

• Unions can shift workers to wage makers, affecting overall wages and employment trends.