The Factors of Production - chapter 16

16.1. The Factors of Production: Land, Labour, and Capital

• Factors of production: the ingredients that go into making a good or service
  • Can be divided into 3 major categories: land, capital, and labour
• Capital: manufactured goods that are used to produce new goods
• Factors of production are rented, bought, and sold in markets, at prices and in quantities that are determined by supply and demand
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• Firms choose to produce using the combination of factors that will maximize profit

16.2. Demand for Labour

• The demand for factors of production is determined by their contribution to the value of a firm’s output
• We can use the marginal product of labour (or land or capital) to measure the increase in output gained by using one more unit of production
  • value of the marginal product: the marginal revenue generated by an additional unit of input times the price of the output
• Firms will hire workers up to the point where the wage equals the value of the marginal product of labour (MR = MC)
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• If we graph the value of the marginal product against the number of workers, we get a downward-sloping relationship that is the same as the demand curve for labour

16.3. Supply of Labour

• The supply of a factor of production is driven by the opportunity cost of using that factor in a given market

• The opportunity cost of supplying labour in a particularly labour market is the time you would otherwise have spent on leisure or working at another job

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• An increase in wages has two effects on the labour supply, a price effect and an income effect

• The price effect causes the quantity of labour supplied to increase, all else held equal

• The income effect decreases the labour supply, as workers demand more leisure time

• In general, the price effect outweighs the income effect, which means that the labour supply curve slopes upward

  

16.4. Reaching Equilibrium

• Factor markets reach equilibrium at the point where

  • the demand curve intersects the supply curve
  • The quantity demanded equals the quantity supplied at a given price or wage

  

16.5. Shifts in Supply and Demand

• If the underlying determinants of supply or demand change, the equilibrium point can shift

• The determinants of labour demand include anything that affects the value of the marginal product, including the supply of other factors, changes in technology, and output prices

• The determinants of labour supply include culture, population, and the availability of other opportunities

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16.6. Human Capital

• human capital: the set of skills, knowledge, experience, and talent that determine the productivity of workers
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• Workers differ from one another because they have different amounts of and types of human capital to offer
  • Allow them to be more or less productive than others at different tasks
• Some types of human capital makke workers more productive at a wide range of jobs; others relate to very specific tasks
• Differences in human capital are a key determinant of wages, and therefore of differences in people’s incomes

16.7. Markets for Land and Capital

• The markets for land and capital are similar to markets for labour; the major difference is that land and capital can be purchased as well as rented
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• rental price: the price paid to use a factor of production for a certain period or task
• purchase price: the price paid to gain permanent ownership of a factor of production
• The word capital is often used loosely to refer to financial capital as well as physical capital
• When people invest money in the stock market or a company, they are using financial capital to purchase a share of the company’s physical capital
• economic rent: the gains that workers and owners of capital receive from supplying their labour or machinery in factor markets

16.8. Minimum Wages and Efficiency Wages

• There are two common reasons for a wage to rise above the market equilibrium: minimum wages and efficiency wages
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• A minimum wage is a price floor on the price of labour
• In an efficient labour market, a price floor causes excess supply and unemployment
• efficiency wage: a wage that is deliberately set above the market rate to increase worker productivity

16.9. Company Towns, Unions, and Labour Laws

• Just as markets for goods and services are not always perfectly competitive, neither are labour markets
• Monopsony: a market in which there is only one buyer but many sellers
  • A monopsonist has the market power to push wages below the market equilibrium
• Workers can also gain market power, by banding together to make joint labour supply decisions and push their wages above the equilibrium
• Through regulations, the government can also impose costs on labour markets