Chapter 6

1. Apply a supply and demand model to

understand the labor market
2. Explain how changes in the supply of and the
demand for labor explain changes in real wages
3. Define and calculate the unemployment rate and
the participation rate
4. Differentiate among the three types of
unemployment defined by economists and the
costs associated with each

6-2
• Supply and demand can be used to find the price of
labor (real wages) and the quantity (employment)
• Labor market is an input market
– Firms buy labor to produce goods and services
– Labor Demand
– Example, Sasquatch, Wartburg or Apple
– Workers sell their labor to earn income
– Labor Supply
– Example, the bartender, Professor, Programmer

6-3
• The demand for labor depends upon:
– The productivity of workers
• Greater productivity increases employment
– The price of the worker’s output
• Extra revenue the worker brings in
• Diminishing returns to labor
– Adding one worker increases output but by
less than the previous worker added
• Value of Marginal Product (VMP) is extra
revenue that an added worker generates

6-4
• Apple can sell all its computers for $3,000 each
Number of Computers Marginal Value of Marginal
Workers per Year Product Product
1 25 25 $75,000
2 48 23 69,000
3 69 21 63,000
4 88 19 57,000
5 105 17 51,000
6 120 15 45,000
7 133 13 39,000
8 144 11 33,000

6-5
• Hire an extra worker if
and only if the VMP
exceeds the wage paid

Wage ($000s)
• If wage is $60,000,
Apple will hire 3 60
workers
50
– At $50,000, Apple
hires 5 workers Labor
• The lower the wage, the Demand
more workers employed
3 5
Employment

6-6
• Demand shifts when the value of the
marginal product of a worker changes
• Two factors determine the demand
(VMP) for labor
– The price of the company’s output
• An increase in market demand
– The productivity of the workers
• Advanced technology
• Organizational change
• Training and education

6-7
• If the price of computers
increases, demand for

Real Wage ($000s)

labor shifts to the right
– There is a separate 60
demand for labor
curve for each 50 LD’

possible output price

• An increase in the LD
price of workers' output
increases the demand 3 5 7 8
for labor Employment

6-8
  Increases in productivity
increase VMP
 Demand curve shifts right
 Employers hire more workers
at any given wage
Real Wage

Labor Demand
(after productivity
increase)
Labor Demand
(before productivity increase)
Employment

6-9
• Reservation wage is the lowest wage a
worker would accept for a given job
– Opportunity cost of working is your leisure
activity
– Work compensates you for lost leisure
• So long as your reservation wage is higher
than the opportunity cost of working, you
should take the job

6-10
 Labor
Supply
Real Wage

The labor supply curve

slopes up because at a
higher real wage, more
people are willing to work

Employment

6-11
• A shift in labor supply is caused by any
change in the number of workers willing
to work at each wage
– Increase in the working-age population
• High birth rate
• Higher net immigration
• Increasing age at retirement

6-12
• The following table lists the marginal product per hour of workers in a light bulb
factory. Light bulbs sell for $2 each, and there are no costs to producing them
other than labor costs. If the hourly wage for factory workers is $28 how many
workers should be hired? What if the hourly wage is $36?

Number of Marginal Product: light bulb/hr

Workers
1 24
2 22
3 20
4 18
5 16
6 14
7 12
17-13
• Explain what happens to equilibrium wage and
employment in the orange labor industry in Florida
when the following scenarios occur
– A. High immigration in the State of Florida
– B. Oranges have been found to cure cancer thus
demand for oranges increases.

©McGraw-Hill Education. All rights 17-14

reserved.
• The Unemployment Rate is calculated by the
Bureau of Labor Statistics (BLS)
Population Age 16+

Unemployed
Out of
the
Employed
Labor
Force

• Labor force = employed + unemployed

• Unemployment rate = unemployed / labor force
• Participation rate = labor force / population 16+
6-15
U.S. Employment Data, September 2018(in millions)
Employed 155.96 million
Unemployed 5.96 million
Labor Force 161.92 million
Not in the Labor Force 96.36 million
Working-Age Population 258.28 million
Unemployment Rate 3.7%
Participation rate 62.7%

6-16
12.00

10.00

8.00

6.00

4.00

2.00

0.00
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 20186-17
• Compute the labor force, u-rate, labor participation
rate and adult population(age16+)

Adult Population of Castle Rock, 2018

# of employed 151.1 million

# of unemployed 7.8 million

Not in labor force 94.5 million

17-18
• Frictional unemployment occurs when
workers are between jobs
– Short duration, low economic cost
– Example, is quitting a job
• Cyclical unemployment is the
increase in unemployment during
economic slow-downs
– Usually short duration
– Economic cost is the decline in real GDP

6-19
• Structural unemployment is long-
term, unemployment caused by
fundamental shifts in the economy
– Shifts like an improvement in technology or
government policy like minimum wage
– Makes skills obsolete
– Example: Newspaper Industry from a
technological shift

6-20
 Minimum Wage Laws
S
• Setting a minimum
wage (Wmin) above
A B equilibrium (W)
Real Wage

Wmin
creates (NB – NA)
W
unemployment
D

NA N NB
Employment

6-21
• Unemployment insurance is a
government transfer to unemployed
workers
– Helps to reduce the costs of
unemployment
– May give the unemployed an incentive to
search longer and less intensely

6-22
• For each of the following state whether it is frictional
unemployment, structural unemployment, or cyclical
unemployment
– Ted lost his job when the steel mill closed down. He lacks
the skills to work in another industry and is currently
unemployed
– Alice lost her job at the auto industry because of the
economic recession
– Gwen had a job as a clerk but quit when her husband was
transferred to another state.

17-23
 – Unemployment spell is the period during
which an individual is continuously
unemployed
– Duration of unemployment is the length of
the unemployment spell
• The higher the duration of unemployment,
the high the costs associated

6-24
• Economic costs
– Lost income and production
• Psychological costs
– Individual self-esteem
– Family stress of decreased income and
increased uncertainty
• Social costs
– Potential increases in crimes and social
problems
• Social resources spent to address these

6-25
 Labor Market Unemployment
Costs

Demand for Supply of Types

Labor Labor

6-26