McGraw-Hill/Irwin

Chapter 13
Wage
Determination

Copyright 2009 by The McGraw-Hill Companies, Inc. All

Chapter Objectives
Labor productivity and real
compensation
Wage and employment
determination
Competitive and monopsony markets
Unions and wage rates
Causes of wage differentials
Pay-for-Performance plans
13-2

Labor Wages and Earnings

Wages
Price paid for labor
Direct pay plus fringe benefits

Wage rate
Nominal wage
Real wage
General level of wages
13-3

Level of Wages Across Nations

Hourly Wages of Production Workers
Hourly Pay in U.S. Dollars, 2006
0

10

15

20

25

30

35

Germany
Sweden
Switzerland
United Kingdom
Australia
Canada
Italy
France
United States
Japan
Spain
Korea
Taiwan
Mexico
Source: U.S. Bureau of Labor Statistics, 2006
13-4

Role of Productivity
Labor demand depends on
productivity
U.S. labor highly productive
Plentiful capital
Access to abundant natural
resources
Advanced technology
Labor quality
Other factors
13-5

Real Wages
Long run trend of average real
wages in the U.S.
Real Wage Rate (Dollars)

Variation across occupations

S2020

S1900

D1900

S1950

D1950

S2000

D2000

Quantity of Labor

D2020

13-6

Competitive Labor Market

Market demand for labor
Sum of firm demand
Example: carpenters

Market supply for labor

Upward sloping
Competition among industries

Labor market equilibrium

MRP = MRC rule
13-7

Competitive Labor Market

Labor Market

Individual Firm
a

($10)
WC

($10)
WC

D=MRP
( mrps)
0

Wage Rate (Dollars)

Wage Rate (Dollars)

QC

(1000)

Quantity of Labor

s=MRC

d=mrp

qC

(5)

Quantity of Labor

13-8

Monopsony Model
Employer has buying power
Characteristics
Single buyer
Labor immobile
Firm wage maker

Firm labor supply upward sloping

MRC higher than wage rate
Equilibrium
13-9

Monopsony Model

Wage Rate (Dollars)

MRC

b
a

Wc
Wm

c
MRP

Qm

Qc

Quantity of Labor

Examples of monopsony power

13-10

Demand Enhancement Model

Union model

Wage Rate (Dollars)

Increase product demand

Alter price of other inputs

S
Increase
In Demand

Wu
Wc

D2
D1
Qc

Qu

Quantity of Labor

13-11

Craft Union Model

Effectively reduce supply labor
Restrict immigration
Reduce child labor
Compulsory retirement
Shorter workweek

Exclusive unionism
Occupational licensing
13-12

Craft Union Model

Wage Rate (Dollars)

S2

S1

Decrease
In Supply

Wu
Wc

D
Qu

Qc

Quantity of Labor
13-13

Industrial Union Model

Inclusive unionism

Auto and steel workers

Wage Rate (Dollars)

Wu

Wc

D
Qu

Qc

Qe

Quantity of Labor

13-14

Union Models
Are unions successful?
Wages 15% higher on average
Consequences:
Higher unemployment
Restricted ability to demand higher
wages

13-15

Bilateral Monopoly
Monopsony and inclusive
unionism
Single buyer and seller
Not uncommon
Indeterminate outcome
Desirability
13-16

Bilateral Monopoly

Wage Rate (Dollars)

MRC

Wu

Wc
Wm

D=MRP
Qu=Qm

Qc

Quantity of Labor

13-17

Minimum Wage

Case against minimum wage

Case for minimum wage
State and locally set rates
Evidence and conclusions

13-18

Wage Differentials
Average Annual Wages, 2007
Occupation
Surgeons
Aircraft Pilots
Petroleum Engineers
Financial Managers
Law Professors
Chemical Engineers
Dental Hygienists
Registered Nurses
Police Officers
Electricians
Travel Agents
Barbers
Retail Salespersons
Recreation Workers
Teacher Aides
Fast Food Cooks

Annual Average Wages

$191,410
148,810
113,890
106,200
95,510
84,240
64,910
62,480
50,670
48,100
32,190
25,860
24,530
23,790
22,820
16,860

Source: Bureau of Labor Statistics, 2006

13-19

Labor Supply and Demand

Differences across occupations

Explains wage differentials
Marginal revenue productivity
Noncompeting groups
Ability
Education and training
Compensating differences
13-20

Annual Earnings (Thousands of Dollars)

Education and Annual Earnings

Educational
Attainment

Professional Degree

Bachelors Degree
Associates Degree

High School Diploma

Age

13-21

Wage Differentials
Workers prevented from moving
to higher paying jobs
Market imperfections
Lack of job information
Geographic immobility
Unions and government restraints
Discrimination
13-22

Pay for Performance

The principal-agent problem
Incentive pay plan
Piece rates
Commissions or royalties
Bonuses, stock options, and profit
Sharing
Efficiency wages

Negative side-effects
13-23

Are CEOs Overpaid?

U.S. CEO salaries relatively high

Good decisions enhance productivity
Limited supply, high MRP
Incentive to raise productivity at all
levels
High salary bias by board members
Unsettled issue
13-24

Key Terms
wage rate

minimum wage

nominal wage

wage differentials

real wage

marginal revenue
productivity

purely competitive
labor market

noncompeting groups

monopsony

human capital

exclusive unionism

compensating
differences

occupational
licensing

incentive pay plan

inclusive unionism
bilateral monopoly

13-25

Next Chapter Preview

Rent, Interest,
and Profit

13-26