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The Labor Market : Wages … Prices … Wages

The Labor Market : Wages … Prices … Wages. Medium Run Response to an Increase in Demand. Higher production requires an increase in employment Higher employment reduces unemployment Lower unemployment puts pressure on wages Higher wages increase production costs and prices

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The Labor Market : Wages … Prices … Wages

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  1. The Labor Market: Wages … Prices … Wages Medium Run Response to an Increase in Demand • Higher production requires an increase in employment • Higher employment reduces unemployment • Lower unemployment puts pressure on wages • Higher wages increase production costs and prices • Higher prices lead workers to ask for higher wages…. • Prices and wages (the labor market) adjust over the medium run and influence output

  2. The Labor Market: The Medium Run A Tour of the Labor Market U.S. Population 2003 291.0 million Minus: Pop. under 16, -69.8 million Armed forces and Incarcerated Civilian Noninstitutional Pop. 221.2 million Civilian Labor Force 146.5 million Employed 137.7 million Unemployed 8.8 million Out of the Labor Force 74.7 million

  3. The participation rate= The Labor Market: The Medium Run A Tour of the Labor Market The unemployment rate =

  4. Employment 127 million Job Change 3.5 million 1.5 1.5 Out of labor force 66.7 million Unemployment 7.0 million 1.7 1.8 1.1 1.3 The Labor Market: The Medium Run Labor Force Data, 1994 – 1999 (monthly flows)

  5. Category Male: Ages 16-19 35-44 Female: Ages 16-19 35-44 Monthly Separation Rate (%) (Quits and Layoffs) 15.9 1.6 16.1 5.0 A Tour of the Labor Market Differences Across Workers Monthly Separation Rates for Different Groups, 1968-1986

  6. Movements in Unemployment

  7. Movements in Unemployment • High Unemployment: • Increases the probability of workers losing their jobs • Reduces the probability of the unemployed finding a job • Increases the duration of unemployment

  8. 1. Workers’ wages exceed theirreservation wage 2. • Wages depend on labor-market • conditions: • How easily can a worker be replaced? • How easily a worker can find another job? • Efficiency Wages:Wages above the • reservation wage that increase productivity • and reduce the turnover rate. Wage Determination

  9. Wage determination: Wages and Unemployment W = Wage Pe = Expected price level u = The unemployment rate z = Other variables that affect the wage setting

  10. Wage Setting Behavior: The unemployment rate, and wages The other factors and wages The expected price level, Pe & wages • Workers base their wage request on the purchasing power of their wages or real wage W/P • Employers base the wage they pay on the price of the product they sell or the real wage W/P • Therefore, if Price (P) increases, wages (W) increase • Higher unemployment reduces bargaining power of labor and wages • Higher unemployment reduces the efficiency wage • Unemployment insurance: higher benefits  higher wages • Structural Economic Change: wages increase when jobs created exceed jobs destroyed

  11. Price Determination and the Production Function Assume labor is the only input, then Output (Y) = AN N = Employment A = Labor Productivity Assume A=1 Y = N If Y=N: then marginal cost = Wage (W) In non-competitive markets: P=(1+µ)W µ= Markup of price over cost • If markup (µ) increases • Price (P) increases, given wages (W) • Real wage falls

  12. The higher the unemployment rate (u), the lowerthe real wage The wage-setting relation Pe = P in medium run, so W =P F(u,z)

  13. The Price-setting relation: Price-setting relation (W/P is independent of u) Wage-setting relation (W/P varies inversely with u) PS Real Wage, W/P Real Wage, W/P WS Unemployment Rate, u Unemployment Rate, u The wage-setting relation:

  14. Wage-setting, F(u, Z) = Price-setting, A PS Real Wage, W/P WS Unemployment Rate, u Natural Rate of Unemployment …Structural Rate … Equilibrium Rate … NAIRU Equilibrium Real Wages, Employment and Unemployment Labor Market Equilibrium un – The natural rate of unemployment

  15. A B PS WS´ = F(u, Z´) WS = F(u, Z) un´ un The Natural Rate of Unemployment / Structural Rate of Unemployment =The unemployment rate at which wage-setters accept the real wage they must accept, given markup μ. Is the natural rate of unemployment “natural”? Scenario: Increase unemployment benefits (z increases) Real Wage, W/P Unemployment Rate, u The increase in Z increases un

  16. PS PS´ WS = F(u, Z) un´ un The Natural Rate of Unemployment Scenario: More stringent antitrust legislation (µ decreases) Real Wage, W/P Unemployment Rate, u The decrease in µ reduces un

  17. From Unemployment to Output U = unemployment N = employment L = labor force u = unemployment rate Rearranging for N: N=L(1-u) The Natural Level of Employment N=L(1-u) un = natural rate of unemployment Nn = natural level of employment Nn = L(1-un)

  18. From Unemployment to Output Equilibrium Unemployment Rate: Natural level of output:

  19. At Yn the associated and the real wage chosen in wage settingequals the real wage implied by price setting. Equilibrium Real Wages, Employment, and Unemployment

  20. Short-Run • Price level may not equal the expected price • Unemployment may not equal natural unemployment level • Output may not equal natural output Medium- Term • Price level tends to equal expected prices • Unemployment tends to the natural rate • Output moves toward the natural rate The Appropriate Time Frame

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