PREPARED BY: KAREN GRACE VALDEZ, MBA

Labor Supply: The

Macroeconomic Perspective
Assignment: Gary Becker
1. Beckers theory of marriage

Marriage Labor market
Seeking partners
Obtaining complete
information
Cost of obtaining
additional information
(forgone benefits)
Additional information can
lead to unfavorable
situations, ending the
optimality of the match
Seeking jobs
Obtaining complete
information
Cost of obtaining
additional information
(forgone benefits)
Additional information can
lead to people leaving jobs
Assignment: Gary Becker
2. Household as a little factory (allocate time: work,
household production, household consumption---all
providing utility maximizing commodities)


Assignment: Gary Becker
3. Children are time-intensive durable goods (price =
forgone earnings)


Assignment: Gary Becker
4. Beckers theory of human capital

Firms Workers
Decision to purchase
physical capital
Decision to invest on
education and training
Application: Criminals rationally choose between crime and labor market
work
(recall: Marginalism)

Just the same with LABOR MARKET DISCRIMINATION: analyzed as a
preference that the discriminator is willing to pay.

Assignment: Labor Issue
What could be an evident labor issue in the
Philippines nowadays?
LABOR SUPPLY: The Macroeconomic Perspective
Labor Supply
Aggregate Labor Supply; Labor Supply Curve
In the long run, total labor supply depends on the fertility decisions
made by earlier generations
Labor Force: the population 15 years old and over, whether employed
or unemployed, who contribute to the production of goods and services
in the country
Labor Force Participation Rate= [ total number of persons in the
labor force / total population 15 years old and over ] x 100%
Employment Rate = [ total number of employed persons / total
number of persons in the labor force ] x 100%
Unemployment Rate = [ total number of unemployed persons / total
number of persons in the labor force ] x 100%
Employment-population ratio = [total number of employed/total
population] x 100%

LABOR SUPPLY: The Macroeconomic Perspective
Employed: include all those who, during the reference
period are 15 years old and over as of their last birthday and
are reported either:
At work. Those who do any work even for one hour during
the reference period for pay or profit, or work without pay
on the farm or business enterprise operated by a member of
the same household related by blood, marriage or adoption;
or
With a job but not at work. Those who have a job or
business but are not at work because of temporary
illness/injury, vacation or other reasons. Likewise, persons
who expect to report for work or to start operation of a farm
or business enterprise within two weeks from the date of
the enumerators visit, are considered employed.






LABOR SUPPLY: The Macroeconomic Perspective
Unemployed (ILO definition): include all those who, during the reference period are 15 years old and over
as of their last birthday, are:without work, or had no job/business during the basic survey reference period;
AND
seeking work, i.e., had taken specific steps to look for a job or establish business during the basic survey
reference period; OR not seeking work due to the following reasons:
believe no work available
awaiting results of previous job application;
temporary illness/disability;
bad weather; and
waiting for rehire/job recall
AND currently available for work, i.e., were available and willing to take up work in paid employment or self-
employment during the basic survey reference period, and/or would be available and willing to take up work
in paid employment or self-employment within two weeks after the interview date
NOTE:
The current definition of "unemployed" is based on the International Labor Organization (ILO) concept.
Adopted by the National Statistics Office in April 2005, the ILO concept sets three criteria in order for a
person 15 years old or older to be considered as unemployed. He or she must be without work, AND is
actively seeking work OR not seeking work due to valid reasons, AND currently available for
work.
The old Philippine definition of "unemployed" considered only the first two criteria.
Under the new definition (ILO concept), people unavailable for work, or are available for work but are not
looking for work, are not part of the labor force and are not considered as unemployed.

LABOR SUPPLY: The Macroeconomic Perspective
Underemployed: include all employed persons
who express the desire to have additional hours of
work in their present job or an additional job, or to
have a new job with longer working hours.

Underemployment rate:
[ total number of underemployed persons / total
number of employed persons ] x 100%

LABOR SUPPLY: The Macroeconomic Perspective
Determinants of the Total
Labor Services Available
Births
Deaths
Net immigration
Population
LFPR
Hrs of Work
Quantity of
Labor
Quantity of
Labor
Labor
Supply
Emigrate is to immigrate as go is to come.

Source: NSCB

PREPARED BY: KAREN GRACE VALDEZ, MBA
Labor Supply: The
Microeconomic Perspective
LABOR SUPPLY: The Microeconomic Perspective
Individual Labor Supply (backward bending labor
supply)
Neo-classical model of labor-leisure choice
Utility and indifference curves
Budget Constraints
A Workers (labor supply) optimal decision

The Neo-classical Model of Labor-leisure choice
Isolates other factors that affect labor supply
Satisfaction from consumption of goods and leisure
Goods = value of purchases (C) y-axis
Leisure = number of hours of leisure (L) x-axis
U = f (C,L)
Indifference Curves
Ronnie Cabs is consuming Php 5000 worth of
consumption goods and 100 hours of leisure weekly
Ronnie Cabs level of utility for this particular
consumption basket (above) is 25,000 utils
Ronnie Cabs is indifferent to consuming Php 4,000
worth of goods and 125 hours of leisure or
consuming the consumption basket above
Ronnie Cabs will be happier if he is going to
consume Php 450 worth of goods and 150 hours of
leisure as this will yield to 40,000 utils
Construct Ronnie Cabs indifference map

Income-Leisure Indifference Curve
Shows combinations of
real income (C) and
leisure time (L) that will
yield some specific level
of utility to the
individual
Subjective,
psychological
information concerning
an individuals work-
leisure preferences
Properties of Indifference Curves
1. Downward sloping (Assumption: Ronnie likes both
goods and leisure)
2. Higher indifference curves indicate higher levels of
utility
3. Do not intersect
4. Convex to the origin (MRS in consumption ratio
of marginal utilities)


What is the implication?
Clarissa has relatively steep indifference curves
Roni Pags has relatively flat indifference curves
What is the implication?
Relatively steep
indifference curves implies
that it will require a person
a substantial bribe to give
up an additional hour of
leisure (Clarissa)
Relatively flat indifference
curves indicate that the
worker values his leisure
time less (Roni Pags)
Budget Constraint
Shows combinations of
real income (C) and
leisure time (L) that a
worker might realize or
obtain, given the wage
rate
Objective market
information
Assumption: 8 hrs of sleep/day
Budget Constraint Mathematical Model
C = f (time, income)
Part of individual income (property income,
dividends, lottery prizes) is independent of how
many hours he works
C = wh + V
V = non-labor income
h = # of hours allocated to the labor market
W = hourly wage rate
C = dollar value of expenditures
Budget Constraint Mathematical Model
C = wh + V





T = total time available (say, per week)

C = w(T-L) + V
C = wT wL + V
C = (wT + V) wL [y = b mx]


work
leisure
h
L
T = h + L
h = T - L
Budget Constraint Mathematical Model
Given:
C = (wT + V) wL

Construct the function
of this Budget
Contraint
Assumption: 8 hrs of sleep/day
The budget line delineates the
workers opportunity set
(the set of all the consumption
baskets that a particular worker
can afford to buy
Endowment
Point
(if the person
Decides not
To work at all,
He can still purchase
V dollars worth
Of goods
Budget lines fan out clockwise from the origin as
the wage rate increases
Assumption: 24 hrs a day to allocate
between work and leisure (sleeping
considered leisure)
The Optimal Bundle: Hours-of-Work Decision
Optimal work-leisure
position
MRS = w
MUL/MUC = w
MUL /w = MUC
Assuming that wage is constant, what happens to
hours of work when
1. Non-labor income increases
2. Non-labor income decreases

Changes in Non-labor income:
Normal Good vs. Inferior Good
The impact of the change
in non-labor income on
the number of hours of
work is called INCOME
EFFECT
*** Leisure activities are usually regarded as Normal Goods.
Since leisure activities are regarded as normal
goods
Assuming non-labor income is constant, what
happens to hours of work when
1. Wage increases
2. Wage decreases

The effect of a change in the wage rate on hours
of work: A wage increase.
Leisure becomes
expensive for high wage
workers
Leisure is
cheap for low wage
workers
To enjoy the
fruits of higher
income or
cannot afford to
lose a potential
marginal income
Income Effect and Substitution Effect
IE
SE
Net effect (+) Net effect (-)
Work
Work
Income Effect and Substitution Effect
Income Effect - change in the desired hours of work
resulting from a change in non-labor income, holding
wage rate constant
Substitution Effect - change in the desired hours of
work resulting from a change in the wage rate, keeping
income constant; it illustrates what happens to the
workers consumption bundle as wage increases, holding
utility constant
Net Effect overall effect of an increase in wage rate on
the number of hours an individual wants to work (a
function of the relative magnitudes of the two effects)
In mathematical terms:
Income Effect and Substitution Effect
Income Effect
IE = number of hours of work given a constant wage
income

Substitution Effect

SE = number of hours of work given a constant income
wage

Derivation of the backward bending supply curve
SE > IE
IE > SE
Exercise
Illustrate the impact of a DECREASE in wage rate on
the individuals working hours if income effect
exceeds substitution effect
Illustrate the effect of this scenario on the labor
supply curve
Given that IE>SE, a wage decrease will increase
working hours
Net effect (-)
Reservation Wage
The highest wage rate at which an individual is
indifferent between working or not working
(remaining at an endowment point, and working at
that first hour)
The highest wage rate that the individual chooses not
to work
The lowest wage rate at which one would decide to
work
Application: Reservation Wage
RW implies that the person will not work at all if the
market wage is less than the reservation wage
Decision to work = f (market wage, rw)
Market wage = f (firms willingness to pay)
RW = f (how much a worker requires to be bribed to
work that first hour; persons taste for work)
Labor Supply Elasticity
Responsiveness of hours of work to changes in the
wage rate

E = % hours of work h/h h . w
% wage rate w/w w . h
=
=
Exercise
Suppose Marios wage is initially 1000 per hour, and
he works 1,900 hours per year. Mario gets a raise of
2,000 per hour, and he decides to work 2,090 hours
per year. Calculate labor supply elasticity
Is there a relatively large change in hours of work for
a given wage rate?
Empirical Relationship: A regression model of
working hours and wages
hi = awi + bVi + other variables
hi number of hours a person (i) works
wi his wage rate
Vi his non labor income

a impact of a one-dollar increase on hours of work,
holding non-labor income constant (depends on
income and sunbstitution effect)
b measures the impact of a one-dollar increase in
non-labor income, holding wage constant (must be
negative because workers with high levels of
non-labor income consume more leisure,
assuming leisure is a normal good)

Labor Supply Application
Nonparticipation of a
College Student
Steep ICs high
subjective evaluation of
nonwork time (L)
HN availability of non
labor income
Rekatively flat NW low
earning ability

These are all factors
conducive to NOT
participating in the labor
force
i1
i2
i3
i4
Effect of a
welfare program
on hours of work
cash grant 500
50% tax on labor
earnings
In the absence of
welfare P
Income effect
move optimality to
point Q
Substitution effect
move optimality
to point R
Thus this welfare
program reduces
hours of work