Ch 2: Overview of the Labor Market

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The Role of Markets

To coordinate decisions made by a multitude of
individuals and firms regarding what to produce
and how to produce and what to consume
The price system coordinates these decisions
by providing signals to consumers and
producers regarding what to buy (demand) and
what to produce (supply).
Hence, the price system allocates resources
for the production of goods and services that
people want

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The Labor Market

Labor economics is the study of labor markets
The labor market allocates workers to jobs and
coordinates employment decisions
Labor is bought and sold in this market
Employers are buyers; workers are sellers in
this market
Price system determines how much labor will
be bought and sold in each industry or
occupation

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Some definitions
Working age population 15 to 65 (US-16 and
over)
Not in the labor force not employed and not
looking for work
Labor force employed and unemployed
Employed worked at least for an hour during
the reference period
Unemployed did not work during the
reference period and looking for work or
awaiting recall
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Underemployed
Underemployed - are working but are
looking for more work
Visibly underemployed working less
than 40 hours a week and looking for
more work
Invisibly underemployed working 40 or
more hours a week and looking for more
work
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Figure 2.1: Labor Force Status of the

U.S. Adult Civilian Population, April 2007

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Some definitions
Labor force participation rate
Unemployment rate
Employment rate

E
LF

Underemployment rate -

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LF
WAP

U
LF

UE
LF

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Employment Distribution by Major

Nonfarm Sector, 1954-2007
(data displayed graphically in Figure 2.3)

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Some definitions
Wage rate price of labor per hour
Nominal wage the price of labor at
current pesos
Real wage = price of labor divided by
some measure of prices

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Table 2.2: Nominal and Real Hourly

Earnings, U.S. Nonsupervisory Workers
in the Private Sector, 1980-2006

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Some definitions
Earnings = wages X hours worked
Total compensation = earnings +
employee benefits

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Some definitions: Benefits

Payment in kind health care and
insurance, uniform or food allowances,
sick leave, vacation leave
Deferred payments pension,
retirement

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Income
Income total command over resources
Income = total compensation (earnings +
benefits) + unearned income
Unearned income interest, dividends,
rent and transfers

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Figure 2.4: Relationship between Wages,

Earnings, Compensation and Income

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Figure 2.5: The Markets in which

Firms Must Operate

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Table 2.3: Labor Demand Schedule

for a Hypothetical Industry

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Figure 2.6: Labor Demand Curve

(based on Table 2.3)

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Why do labor demand curves slope

downwards?
Scale effect - an increase in the cost of
production will raise prices and reduce
consumption of a good; less production
and lower demand for labor
Substitution effect firms will substitute
labor for other less expensive factors of
production such as machines

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Distinguish between a movement along the

demand curve and a shift in the demand curve

Movement along the curve shows

quantity demanded as a function of its
own wage
Shift of the curve shows how other
factors other than the wage affects the
quantity demanded of labor

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Figure 2.7: Shift in Demand for Labor

Due to Increase in Product Demand

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Figure 2.8: Possible Shifts in Demand

for Labor Due to Fall in Capital Prices

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Three levels of labor demand

Firm level demand for labor by the
firm
Industry level demand by an industry
Market demand overall demand for a
type of labor
Always slopes downward

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Figure 2.9: Market Supply Curve

for Paralegals

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Figure 2.10: Shift in Market Supply

Curve for Paralegals as Salaries of
Insurance Agents Rise

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Figure 2.11: Supply of Paralegals to a

Firm at Alternative Market Wages

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Figure 2.12: Market Demand and Supply

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Figure 2.13: Demand and Supply at

the Market and Firm Levels

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Figure 2.14: New Labor Market

Equilibrium after Demand Shifts Right

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Figure 2.15: New Labor Market

Equilibrium after Supply Shifts Left

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Figure 2.16: New Labor Market Equilibrium

after Supply Shifts Right

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Figure 2.17: Effects of an

Above-Market Wage

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Figure 2.18: Effects of a

Below-Equilibrium Wage

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Figure 2.19: Labor Supply to the Military:

Different Preferences Imply
Different Rents

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Table 2.4: Unemployment and Long-Term

Unemployment, Selected European and
North American Countries, 2005

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