Chapter 4: Labor Demand Elasticities

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Chapter 4 Labor Demand Elasticities
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Own-wage Elasticity of Labor Demand
Labor demand is said to be
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Elasticity and Slope

• Slope involves a relationship between the change
  in the level of the wage and a change in the
  level of employment. Elasticity involves a
  relationship between percentage changes in these
  variables.
• A constant change in the level of a variable will
  not result in a constant percentage change in
  that variable.

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Elasticity and Slope

• Note, for example that
• an increase from 1 to 2 is a 100 increase,
• an increase from 2 to 3 is a 50 increase,
• an increase from 3 to 4 is a 33 increase,
• an increase from 4 to 5 is a 25 increase,
• an increase from 10 to 11 is a 10 increase, and
• an increase from 100 to 101 is a 1 increase.

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Elasticity Along a Linear Demand Curve
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Elasticity Along a Linear Demand Curve
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Elasticity and Slope Comparisons
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Determinants of Own-wage Elasticity of Labor
Demand
Labor demand will be more elastic when

• the substitution effect is larger, and/or
• the scale effect is larger

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Hicks-Marshall Laws of Derived Demand
Own-wage elasticity of labor demand is relatively
high when

• the price elasticity of demand for the final
  product is relatively high,
• tt is relatively easy to substitute other factors
  for this category of labor,
• the supply of other factors of production is
  relatively elastic, and
• this category of labor accounts for a relatively
  large share of total costs.

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First Hicks-Marshall Law

• Own-wage elasticity of demand is relatively high
  when the price elasticity of demand for the final
  product is relatively high.
• This works through the scale effect
• Higher wages result in higher average and
  marginal costs,
• Higher costs result in a higher product price,
• Higher prices result in a reduction in the
  quantity of the product demanded,
• A reduction in sales results in a reduction in
  output and in input use.

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Second Hicks-Marshall Law

• Own-wage elasticity of labor demand will be
  relatively high when it is relatively easy to
  substitute other factors for this category of
  labor.
• This law works through the substitution effect.

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Third Hicks-Marshall Law

• Own-wage elasticity of labor demand is relatively
  high when the price elasticity of supply is
  relatively high for other factors of production.
• This law works through the substitution effect.

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Fourth Hicks-Marshall Law

• Own-wage elasticity is relatively large when this
  category of labor accounts for a relatively large
  share of total costs
• This law works through the scale effect
• Higher wages result in higher average and
  marginal costs,
• Higher costs result in a higher product price,
• Higher prices result in a reduction in the
  quantity of the product demanded,
• A reduction in sales results in a reduction in
  output and in input use.

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Hicks-Marshall Laws and Union Strategy

• unions will be more successful in receiving wage
  increases in markets in which labor demand is
  relatively inelastic,
• unions will attempt to reduce the own-wage
  elasticity of demand for their workers, and
• unions might prefer to organize those labor
  markets in which labor demand is relatively
  inelastic.

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Hicks-Marshall Laws and Union Strategy

• price elasticity of demand for the final product,
• ease of substitution of other inputs,
• supply elasticity of other inputs,
• labors share of total costs.

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Cross-wage (Cross-price) Elasticity of Demand

• A positive cross-price elasticity of demand
  between two inputs indicates that the two inputs
  are gross substitutes.
• Two inputs are gross complements if the
  cross-price elasticity is negative.

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Empirical Estimates of Cross-wage Elasticities

• labor and energy are substitutes,
• labor and materials are substitutes,
• skilled workers are more likely to be gross
  complements with capital than are unskilled
  workers, and
• there is little complementarity or substitution
  between immigrant and native workers.

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Minimum Wage Effects

• minimum wages are specified in nominal, not real
  terms.
• employment reduction under perfect competition
  and complete coverage

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Minimum Wage Effects - Noncovered Sector
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Minimum wage (or union) in a monopsony
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Summary of Minimum Wage Theory

• A minimum wage is expected to result in
• unemployment and economic inefficiency if the
  labor market is perfectly competitive and there
  is complete coverage,
• economic inefficiency if the labor market is
  perfectly competitive and there is a non-covered
  sector, and
• an ambiguous effect on the level of employment if
  firms possess some degree of monopsony power.

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Empirical Results

• early studies suggested a negative effect on
  teenage unemployment,
• recent studies suggest little or no impact,
• effect on poverty is limited (only 22 of minimum
  wage workers live in households with income below
  the poverty level).

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Technological Change

• lower cost and higher quality products,
• shifts in pattern of labor demand,
• automation is approximately equivalent to a
  reduction in the price of capital -- thus, it
  results in substitution and scale effects,
• no evidence of increased aggregate unemployment
  due to technological change.