Read the news clip, then answer the following questions Real Wages Fail to Match
ID: 1124135 • Letter: R
Question
Read the news clip, then answer the following questions Real Wages Fail to Match a Rise in Productivity the demand for For most of the last century, wages and productivity the key measure of the In real business cycle theory, an increase in productivity labor by more than it the supply of labor. economy's efficiency-have risen together, increasing rapidly through the 1950s and '60s and far more slowly in the 1970s and '80s. But in recent years, the productivity gains have continued while the pay increases have not kept up O A. increases; increases O B. increases; decreases O C. decreases, increases The New York Times, August 28, 2006 D. increases; increases In the news clip, productivity gains exceed pay increases because the demand for labor- 0 A. increases by less, decrease O B. increases by less, increase ° C. decreases by more; increase 0 than the in the supply of labor D. decreases by more; decreaseExplanation / Answer
Older macroeconomic theories viewed business activity develop like an AR(1) process, with a trend compoenent and a stochastic component. However, Real Business Cycle Theory developed in the 1980s and argued that business cycles naturally arise in economies as a result of exogenous shocks affecting productivity. Examples include the oil price shocks of the 1970s, wars, technological progress, etc.
In terms of the labor market, it is important to note that there is no unemployment in the real business cycle model. Agents vary their supply of labour, depending on the wage and their preference for leisure.
An increase in productivity (or an positive exogenous producitivy shock) increases output, and in turn, increases the marginal product of labour (MPL). This, in turn, would increase the demand for labor. The supply of labor would also increase (usually) at the higher wage reflected by the higher MPL.
However, in terms of supply, the laborers would face two effects : a substitution effect which makes leisure more expensive and thereby increases the supply of labor; and a income effect which makes leisure more attractive as the total income of the laborer increases. Thus, the increase in supply of labor is usually tempered by the income effect.
Thus,
In Real Business Cycle Theory, an increase in productivity increases the demand for labor by more than it increases the supply of labor
Wages increasing by less than productivity indicate that the increases in demand of labor are not keeping pace with the increases in supply of labor.
In the news clip, productivity gains exceed pay increases because the demand for labor increases by less than the increases in supply of labor
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