Unit IV: Factor Markets

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Unit IV Factor Markets
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Factor Markets

• When firms need to purchase a factor of
  production, they buy them from the factor market.

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Derived Demand

• A firms demand for a factor of production is
  derived from its decision to supply a good in
  another market.
• If Q increases in the product market at every
  price, demand in the factor market will increase
• If Q decreases in the product market at every
  price, demand in the factor market will decrease

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Changes in demand in the factor market

• If people really demand more horses in parades
• Then the city will buy more horses in the factor
  markets

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The Labor Market
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What is the lowest wage you would be willing to
do this job
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The Labor Market

• Made up of firms and workers
• Demand
• Employers willingness to hire a worker at each
  given wage
• Supply
• Workers willingness to work at each given wage

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Scenarios

• Market gym shoes
• The majority of the public now prefers to wear
  sandals. What happens to the wage and quantity
  of sweatshop gym shoe workers?
• The baby boomers become of working age. What
  happens to the wage and quantity of the general
  labor market.
• Market basketballs
• Nike is gaining more and more of the market
  power. What will happen to the wage and quantity
  of Spalding workers.

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Derived Demand Activity

• On a separate sheet of blank paper, please do the
  following
• Write a specific product market and affiliated
  factor market (Adidas shoes and Rubber)
• Write a scenario that will affect the product
  market (Adidas spends 50 million dollars on a new
  advertisement campaign).
• MAKE IT UNIQUE BUT NOT CONFUSING!
• Pass the paper behind you (group at the endwalk
  to the front)

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Partner Activity

• Read your market and the scenario.
• Determine how this will impact the markets.
• Then, graph and provide a written description of
  the market change.
• What happens to price/wage?
• What happens to quantity?

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Bringing it Back

• Each group will read their market and scenario
  they received.
• Every student must write the market and scenario
  they hear in their notes
• Each group will then explain the affect the
  scenario had on their labor market.
• Every student must write the effect in their
  notes.

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Hiring Decision
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First, we need to learn some important terms
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What is marginal product?
When an additional input is used, how does that
impact the total product?
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So what is the marginal product of_____________?
Land
Labor
Seeds
Time
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The Marginal Product of Labor (MPL)

• Change in the amount of output from an additional
  unit of labor.

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The Production Function
Quantity
of Apples
300
280
What is the MPL of the 2nd worker?
240
Answer 80 Apples
180
100
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2
3
4
5
Quantity of
0
Apple Pickers
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The Production Function
Quantity
of Apples
300
280
Notice that the MPL decreases as the quantity of
workers is increased
240
180
100
1
2
3
4
5
Quantity of
0
Apple Pickers
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The Marginal Resource Cost (MRC)

• How much an additional input costs

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The Value of the Marginal Product

• This is also called marginal revenue product or
  MRP. (Most people use this term)
• How much additional revenue is earned when one
  more input is added.
• Marginal Product X Price
• It also eventually diminishes as the number of
  inputs increase

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Market for Apples
Quantity
300
280
What is the MRP of the 3rd worker??
240
Answer 60
180
100
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2
3
4
5
Quantity of
0
Apple Pickers
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Market for Apples
Quantity
300
280
Notice, the MRP of labor decreases as more
workers are added
240
180
100
1
2
3
4
5
Quantity of
0
Apple Pickers
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How would you determine how many farmers to hire?
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Profit Maximizing Firm in Labor Market

• Hire workers where MRP MRC
• Never hire a worker if their MRP is less than
  their MRC (wage)!
• The MRP of labor (MRPL) curve is the labor demand
  curve for a profit-maximizing firm.

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MRP Curve
Wage
Competitive Firm
Quantity of
0
0
Apple Pickers
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Worksheet Practice
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Economic Rent
How much would you have to be paid per hour to
work this job?
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Economic Rent

• An excess payment made for a factor of production
  above the amount expected by its owner.
• On a graph, the price for any physical capital
  is rent or R

I would gladly rent out this building for 50,000
a year.
But, a firm is willing to give me 150,000 a year!
The economic rent for this building to the firm
is 100,000
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Least Cost Combination
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Alternative Input Combinations
How do firms decide how many different
combinations of inputs to use?
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If you were the grocery store owner, which
combination would you choose?
Costs to the firm 1 self-checkout station
2,000 1 cashier 1,600
Option A
Option B

• 20 self-checkout stations
• 4 cashiers

• 10 self-checkout stations
• 10 cashiers

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Cost-Minimization Rule

• The firm would add and subtract each input until
  the marginal product of the first input per
  dollar spent is the same as the marginal product
  of the second input per dollar spent
• Because of diminishing marginal returns
• If the number is too high, the firm would
  increase that input
• If the number is too low, the firm would decrease
  that input

MP(input 1) / MRC(input 1) MP(input 2) /
MRC(input 2)
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Lets do two practice scenarios
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Scenario 1

• Lets do an example of when the marginal product
  of labor per dollar is more than the marginal
  product of capital per dollar
• Marginal product of labor 20 units
• Marginal product of capital 100 units
• Wage 10
• Rental rate for capital 100

MP(input 1) / MRC(input 1) MP(input 2) /
MRC(input 2)
MPL / Wage MPK / Rent
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Scenario 1
2 units of output per dollar spent on labor gt 1
unit of output per dollar spent on capital

• The firm would hire more workers and use less
  capital
• This would lower the MP of labor per dollar and
  increase the MP of capital per dollar

MPL / Wage MPK / Rent
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Scenario 2

• Lets do an example of when the marginal product
  of labor per dollar is less than the marginal
  product of capital per dollar
• Marginal product of labor 20 units
• Marginal product of capital 100 units
• Wage 10
• Rental rate for capital 25

MPL / Wage MPK / Rent
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Scenario 2
2 units of output per dollar spent on labor lt 4
unit of output per dollar spent on capital

• This hire would use less workers and rent more
  capital
• This would increase the MPL/Wage
• This would decrease the MPK/Rental rate

MPL / Wage MPK / Rent