In the graph below, assume that the market demand curve for labor is initially D

Question

In the graph below, assume that the market demand curve for labor is initially D1. Answer the following questions.

What are the equilibrium wage rate and employment level?

Assume that the price of a substitute resource decreases, other things constant. What happens to demand for labor?

What are the new equilibrium wage rate and employment level?

Suppose instead that demand for the final product increases, other things constant. Using labor demand curve D1 as your starting point, what happens to the demand for labor?

What are the new equilibrium wage rate and employment level?

Assume this industry is dominated by non-union workers. How would the equilibrium wage compare to that earned in a similar industry with similarly skilled union workers? Explain.

5. Use the following data to answer the questions below. Assume a perfectly competitive product market.

        Units of Labor       Units of Output

                   0                                   0

                   1                                   8

                   2                                12

                   3                                17

                   4                                21

                   5                                23

Calculate the marginal revenue product at each level of labor input if output sells for $4 per unit.

If the wage rate is $15 per hour, how much labor will be hired?

Explanation / Answer

1. Equilibrium is attained where the demand and the supply curve intersects each other at point I. At the initial D1 curve, the employment is f units of labour and the wage is $b.

2. When the price of the substitute input falls, then the demand for the substitute input increases and the demand for labour would fall. Thus the curve would shift back to the left from D1 to D2.

3. Equilibrium is now at point t. With employment level at e and wages at $c.

4. The demand for final product would incentivise the producers to produce more output and hence in order to produce more the firms would hire more workers and the demand curve would shift from D1 to D3.

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