Chapter 25: Pricing in Resource Markets Resource markets Resource demand The labor market Resource markets Resource demand The labor market.
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Chapter 25: Pricing in Resource Chapter 25: Pricing in Resource MarketsMarketsChapter 25: Pricing in Resource Chapter 25: Pricing in Resource MarketsMarkets
• Resource markets
• Resource demand
• The labor market
• Resource markets
• Resource demand
• The labor market
Factor/Resource marketsFactor/Resource marketsFactor/Resource marketsFactor/Resource markets
• Factors of production: land labor capital entrepreneurship
• factor prices determined in resource markets
• Factors of production: land labor capital entrepreneurship
• factor prices determined in resource markets
resources marketsresources marketsresources marketsresources markets
• same concepts of demand and supply now applied to factors of
production
• same concepts of demand and supply now applied to factors of
production
resource demandresource demandresource demandresource demand
• producer will demand an additional unit of resource if
• producer will demand an additional unit of resource if
MR of resource > MC of
resource
example: Wal Martexample: Wal Martexample: Wal Martexample: Wal Mart
• labor market
• 1 more clerk costs $400 per week
• 1 more clerk increases revenue by $500 week
• hire 1 more clerk? Yes! $500 > $400
• labor market
• 1 more clerk costs $400 per week
• 1 more clerk increases revenue by $500 week
• hire 1 more clerk? Yes! $500 > $400
example: lawn serviceexample: lawn serviceexample: lawn serviceexample: lawn service
• capital market
• larger, faster mower costs extra $400/wk.
• but mow more lawns, extra $600/wk. in revenue
• buy the mower? Yes! $600 > $400
• capital market
• larger, faster mower costs extra $400/wk.
• but mow more lawns, extra $600/wk. in revenue
• buy the mower? Yes! $600 > $400
termstermstermsterms
• marginal revenue product (MRP) extra revenue from one more unit
of resource
• marginal resource cost (MRC) extra cost for one more unit of
resource
• marginal revenue product (MRP) extra revenue from one more unit
of resource
• marginal resource cost (MRC) extra cost for one more unit of
resource
rule for resource demandrule for resource demandrule for resource demandrule for resource demand
• firm hires additional resources until MRC = MRP
cost of the extra resource =
extra revenue from the resource
• firm hires additional resources until MRC = MRP
cost of the extra resource =
extra revenue from the resource
resource supplyresource supplyresource supplyresource supply
• you will supply your resources to the “best” option highest paying (if all else equal)
• nonmonetary factors are important firms must compensate when jobs
are
dirty, dangerous, illegal…..
• you will supply your resources to the “best” option highest paying (if all else equal)
• nonmonetary factors are important firms must compensate when jobs
are
dirty, dangerous, illegal…..
The Market for ResourcesThe Market for ResourcesThe Market for ResourcesThe Market for Resources
• resource demand downward sloping producers less willing, able to buy
resources at higher prices
• resource demand downward sloping producers less willing, able to buy
resources at higher prices
• resource demand is a DERIVED demand it depends on the demand for the
final product
• resource demand is a DERIVED demand it depends on the demand for the
final product
examplesexamplesexamplesexamples
• demand for nurses depends on demand for healthcare
• demand for steel depends on demand for cars
• demand for plywood depends on demand for houses
• demand for nurses depends on demand for healthcare
• demand for steel depends on demand for cars
• demand for plywood depends on demand for houses
Shifts in demand for a resourceShifts in demand for a resourceShifts in demand for a resourceShifts in demand for a resource
• demand for final product if product demand rises, MRP rises resource demand shifts right
• productivity of resource better resource, higher MP & MRP resource demand shifts right
• demand for final product if product demand rises, MRP rises resource demand shifts right
• productivity of resource better resource, higher MP & MRP resource demand shifts right
examplesexamplesexamplesexamples
• increase demand for healthcare increase demand for nurses increase demand for syringes
• higher-skilled labor increases demand for labor
• increase demand for healthcare increase demand for nurses increase demand for syringes
• higher-skilled labor increases demand for labor
• price of other resources if price of substitute resource falls
-- substitute cheaper resource
-- demand for original resource shifts left
• price of other resources if price of substitute resource falls
-- substitute cheaper resource
-- demand for original resource shifts left
exampleexampleexampleexample
• bank ATMs vs bank tellers ATM costs falls
-- demand for bank tellers falls
• bank ATMs vs bank tellers ATM costs falls
-- demand for bank tellers falls
exampleexampleexampleexample
• office buildings skyscrapers in Manhattan 3 stories in Oswego
• why? cost of land vs. cost of
construction
• office buildings skyscrapers in Manhattan 3 stories in Oswego
• why? cost of land vs. cost of
construction
if price of complement resource falls
-- use more of both resources
-- demand for original resource shifts right
if price of complement resource falls
-- use more of both resources
-- demand for original resource shifts right
exampleexampleexampleexample
• price of trucks (18-wheeler) fall increase demand for truck drivers
• price of trucks (18-wheeler) fall increase demand for truck drivers
notenotenotenote
• sometimes resources are BOTH substitutes and complements: computers do some clerical
functions AND need clerical workers to operate
them
• sometimes resources are BOTH substitutes and complements: computers do some clerical
functions AND need clerical workers to operate
them
• technology decrease demand for some types
of labor increase demand for other types of
labor
• technology decrease demand for some types
of labor increase demand for other types of
labor
exampleexampleexampleexample
• better/cheaper computer technology increases demand for
programmers decrease demand for architects
• better/cheaper computer technology increases demand for
programmers decrease demand for architects
• resource supply upward sloping suppliers more willing, able to
provide resources at higher prices
• resource supply upward sloping suppliers more willing, able to
provide resources at higher prices
Q res.
P res.S
D
P*
Q*
resource pricesresource pricesresource pricesresource prices• tend to equalize across alternative uses
carpenters for houses carpenters for furniture
• UNLESS other nonmonetary differences economics professors vs. business
economists land in Manhattan vs. land in Oswego
• tend to equalize across alternative uses carpenters for houses carpenters for furniture
• UNLESS other nonmonetary differences economics professors vs. business
economists land in Manhattan vs. land in Oswego
The Labor MarketThe Labor MarketThe Labor MarketThe Labor Market
• Labor supply
• Labor demand
• Earnings differences
• Labor supply
• Labor demand
• Earnings differences
Labor SupplyLabor SupplyLabor SupplyLabor Supply
• time is a scarce resource market work (for pay) nonmarket work (not for pay)
(cleaning, studying) leisure (for fun)
• time is a scarce resource market work (for pay) nonmarket work (not for pay)
(cleaning, studying) leisure (for fun)
work and utilitywork and utilitywork and utilitywork and utility
• work is a disutility but allows you to buy stuff or to enjoy stuff
(clean house, dinner, good grades)
• work is a disutility but allows you to buy stuff or to enjoy stuff
(clean house, dinner, good grades)
• tradeoff between consumption & leisure work to buy stuff or to make stuff but working leaves less time for
leisure
• tradeoff between consumption & leisure work to buy stuff or to make stuff but working leaves less time for
leisure
implicationsimplicationsimplicationsimplications
• higher wages
= higher opp. cost of leisure, nonmarket work
most surgeons don’t mow their lawn
many college sports stars head to the draft early
• higher wages
= higher opp. cost of leisure, nonmarket work
most surgeons don’t mow their lawn
many college sports stars head to the draft early
• two effects: substitution effect income effect
• two effects: substitution effect income effect
Effect of a wage increaseEffect of a wage increaseEffect of a wage increaseEffect of a wage increase
substitution effectsubstitution effectsubstitution effectsubstitution effect
• as wage rises opp. cost of other time uses rises spend more time on market work
• Qs of labor rises as wages rise
• as wage rises opp. cost of other time uses rises spend more time on market work
• Qs of labor rises as wages rise
income effectincome effectincome effectincome effect
• as wages rise income rises consumer more of what you like:
-- stuff, leisure
• Qs of labor falls as wages rise
• as wages rise income rises consumer more of what you like:
-- stuff, leisure
• Qs of labor falls as wages rise
• if substitution effect > income effect labor supply is upward sloping
• if substitution effect < income effect labor supply is downward sloping
• which is it?
• if substitution effect > income effect labor supply is upward sloping
• if substitution effect < income effect labor supply is downward sloping
• which is it?
labor supplylabor supplylabor supplylabor supply
• economists observe upward sloping for most wages downward sloping at very high
wages
• backward-bending supply curve
• economists observe upward sloping for most wages downward sloping at very high
wages
• backward-bending supply curve
wage
Q labor
S
subst. > inc. effect
subst. < inc. effect
Changes in market labor supplyChanges in market labor supplyChanges in market labor supplyChanges in market labor supply
• adult population births rates, immigration increase will shift labor supply
right
• adult population births rates, immigration increase will shift labor supply
right
• preferences willingness of groups to work women have increasingly entered
labor force
-- shift labor supply right
• preferences willingness of groups to work women have increasingly entered
labor force
-- shift labor supply right
• skills, education, training education increases opp. cost of
not working for pay
-- labor supply increases with education
increase HS, college graduation
-- increase supply high-skill labor
-- decrease supply low-skill labor
• skills, education, training education increases opp. cost of
not working for pay
-- labor supply increases with education
increase HS, college graduation
-- increase supply high-skill labor
-- decrease supply low-skill labor
• other sources of income nonwage income lowers labor
supply less labor supply among those
over 50 with the growth of pensions, disability
less labor supply among women with high-earning husbands
• other sources of income nonwage income lowers labor
supply less labor supply among those
over 50 with the growth of pensions, disability
less labor supply among women with high-earning husbands
Labor demandLabor demandLabor demandLabor demand
• firm’s demand for labor
• car wash perfectly competitive
• marginal revenue product (MRP) change in total revenue when one
more unit of labor is hired
• firm’s demand for labor
• car wash perfectly competitive
• marginal revenue product (MRP) change in total revenue when one
more unit of labor is hired
example: car washexample: car washexample: car washexample: car wash
• price of car wash = $3
• car washes per hour• price of car wash = $3
• car washes per hour
Q labor TP MP MRP
0 01 5
2 93 124 145 15
54
3
21
1512
9
63
how much labor to hirehow much labor to hirehow much labor to hirehow much labor to hire
• MC of one more unit of labor marginal resource cost (MRC) wage
• MR of one more unit of labor MRP
• hire until MRP = wage
• MC of one more unit of labor marginal resource cost (MRC) wage
• MR of one more unit of labor MRP
• hire until MRP = wage
• if MRP > wage hire more labor and still add to
profit
• if MRP < wage last units labor taking away from
profit, hire less labor
• if MRP > wage hire more labor and still add to
profit
• if MRP < wage last units labor taking away from
profit, hire less labor
wage
Q labor
15
12
9
6
3
1 2 3 4 5
LD
if wage = $9
hire 3 units labor
wage
Q labor
15
12
9
6
3
1 2 3 4 5
LD
wage = $6,hire 4
wage = $12,hire 2
Earnings differencesEarnings differencesEarnings differencesEarnings differences
• based on both demand-side and supply side factors
• based on both demand-side and supply side factors
Human CapitalHuman CapitalHuman CapitalHuman Capital
• Skill set Education, training, experience
• increases MP of labor & labor demand
• cost of education means supply of skilled labor lower relative to unskilled labor
• result is a higher market wage
• Skill set Education, training, experience
• increases MP of labor & labor demand
• cost of education means supply of skilled labor lower relative to unskilled labor
• result is a higher market wage
ability/talentability/talentability/talentability/talent
• Human capital, but hard to measure
• the best athletes, most popular movies stars, CEOs command HUGE salary premium over others
• Human capital, but hard to measure
• the best athletes, most popular movies stars, CEOs command HUGE salary premium over others
Efficiency wage theoryEfficiency wage theoryEfficiency wage theoryEfficiency wage theory
• Higher pay leads to better productivity
• Why? Better morale, lower turnover “Cherry pick” the best workers Workers do not want to risk losing
job
• Higher pay leads to better productivity
• Why? Better morale, lower turnover “Cherry pick” the best workers Workers do not want to risk losing
job
Non-wage job characteristicsNon-wage job characteristicsNon-wage job characteristicsNon-wage job characteristics
• Risk/danger
• Working conditions
• Work is meaningful or glamorousHolding all else constant,
• dangerous jobs pay more
• jobs with higher layoff probability pay more
• Risk/danger
• Working conditions
• Work is meaningful or glamorousHolding all else constant,
• dangerous jobs pay more
• jobs with higher layoff probability pay more
geographygeographygeographygeography
• wages higher in U.S. encourages immigration
• teacher’s salaries vary significantly by state
• wages lower in South than Northeast
• wages higher in U.S. encourages immigration
• teacher’s salaries vary significantly by state
• wages lower in South than Northeast
discriminationdiscriminationdiscriminationdiscrimination
• age, race, gender
• wage differentials remain EVEN after controlling for other factors occupation education/experience risk
• age, race, gender
• wage differentials remain EVEN after controlling for other factors occupation education/experience risk
unionizationunionizationunionizationunionization
• union workers earn more than nonunion workers doing the same jobs janitors auto workers teachers
• union workers earn more than nonunion workers doing the same jobs janitors auto workers teachers
26. Markets for Capital and Natural 26. Markets for Capital and Natural ResourcesResources26. Markets for Capital and Natural 26. Markets for Capital and Natural ResourcesResources
• Financial markets
• Natural Resource markets• Financial markets
• Natural Resource markets
Financial MarketsFinancial MarketsFinancial MarketsFinancial Markets
• Demand for financial capital
• Supply of financial capital
• interest rate
• financial capital = loanable funds
• Demand for financial capital
• Supply of financial capital
• interest rate
• financial capital = loanable funds
Demand for Financial capitalDemand for Financial capitalDemand for Financial capitalDemand for Financial capital
• firms demand funds to finance capital purchases
• higher interest rate, more expensive to borrow lower Q demanded of funds
• firms demand funds to finance capital purchases
• higher interest rate, more expensive to borrow lower Q demanded of funds
interest rate
Q funds
D
Shifts in demand for fundsShifts in demand for fundsShifts in demand for fundsShifts in demand for funds
• population growth increase demand for goods, increase demand for capital, increase demand for funds
• population growth increase demand for goods, increase demand for capital, increase demand for funds
• technology increase demand for new capital, increase demand for funds to
finance it
• technology increase demand for new capital, increase demand for funds to
finance it
• Government borrowing Federal gov’t deficits shift demand
to the right
• Government borrowing Federal gov’t deficits shift demand
to the right
Supply of Financial capital Supply of Financial capital Supply of Financial capital Supply of Financial capital
• people’s savings decisions tradeoff between consuming today &
consuming tomorrow• Time preference
• higher interest rates encourage saving higher opportunity cost of current
consumption higher Q supplied of funds
• people’s savings decisions tradeoff between consuming today &
consuming tomorrow• Time preference
• higher interest rates encourage saving higher opportunity cost of current
consumption higher Q supplied of funds
Shifts in supply of fundsShifts in supply of fundsShifts in supply of fundsShifts in supply of funds
• population higher population, more saving supply shifts right
• income higher income, more savings supply shifts right
• population higher population, more saving supply shifts right
• income higher income, more savings supply shifts right
• expected future income save today based on future needs
-- retirement, college save to smooth consumption over time expect income to rise
-- save less today, supply falls expect income to fall
-- save more today, supply rises
• expected future income save today based on future needs
-- retirement, college save to smooth consumption over time expect income to rise
-- save less today, supply falls expect income to fall
-- save more today, supply rises
interest rate
Q funds
S
D
Financial market equilbriumFinancial market equilbriumFinancial market equilbriumFinancial market equilbrium
i*
Q*
Natural Resource marketsNatural Resource marketsNatural Resource marketsNatural Resource markets
• renewable resources land, forests, livestock
• nonrenewable resources fossil fuels, metals
• renewable resources land, forests, livestock
• nonrenewable resources fossil fuels, metals
Market for landMarket for landMarket for landMarket for land
• supply is fixed for type or location perfectly inelastic
• supply is fixed for type or location perfectly inelastic
Srent
Q land
D
r*
Q*
economic renteconomic renteconomic renteconomic rent
• rent for land is special land is available even if rent=0 demand affects P, not Q
• economic rent rent above what is required to
induce Q supplied of factor
• rent for land is special land is available even if rent=0 demand affects P, not Q
• economic rent rent above what is required to
induce Q supplied of factor
Srent
Q land
D
r*
Q*
economic rent
• Pure economic rent Income earned by resource with a
perfectly inelastic supply
• Pure economic rent Income earned by resource with a
perfectly inelastic supply
Economic RentEconomic RentEconomic RentEconomic Rent
• amount of resource earnings ABOVE opportunity cost
• or
resource earnings – minimum required earnings
• “gravy”! “bonus”!
• amount of resource earnings ABOVE opportunity cost
• or
resource earnings – minimum required earnings
• “gravy”! “bonus”!
example: Shaquille O/Nealexample: Shaquille O/Nealexample: Shaquille O/Nealexample: Shaquille O/Neal
• 2000: $35 million
• what is minimum for which he would play basketball and endorse stuff? suppose $1 million
• economic rent: $34 million
• 2000: $35 million
• what is minimum for which he would play basketball and endorse stuff? suppose $1 million
• economic rent: $34 million
when do resources earn rent?when do resources earn rent?when do resources earn rent?when do resources earn rent?
• less elastic (more inelastic) the supply, more rent as a % of total earnings
• less elastic (more inelastic) the supply, more rent as a % of total earnings
Differential rentDifferential rentDifferential rentDifferential rent
• Rents earned to superior units of a resource Where quality of resource affects
productivity
• Examples Highly fertile farmland Highly skilled trial lawyer
• Rents earned to superior units of a resource Where quality of resource affects
productivity
• Examples Highly fertile farmland Highly skilled trial lawyer
Inframarginal rentInframarginal rentInframarginal rentInframarginal rent
• Total rent when units of resource differ in their opportunity costs
• What causes differences? Differences in objectives Differences in constraints
• Total rent when units of resource differ in their opportunity costs
• What causes differences? Differences in objectives Differences in constraints
examplesexamplesexamplesexamples
• Nursing Find the work rewarding Other constraints in the job market
• Teaching summer school Presence of small children Children in college
• Nursing Find the work rewarding Other constraints in the job market
• Teaching summer school Presence of small children Children in college
Q res.
P res.S
D
P*
Q*
upward-sloping supply
earnings split
rent
opp.cost
Supply of nonrenewable resourceSupply of nonrenewable resourceSupply of nonrenewable resourceSupply of nonrenewable resource
• at point in time Q is fixed
• but over time use
-- decrease supply new discoveries
-- increase supply technology for better use
-- decrease demand
• at point in time Q is fixed
• but over time use
-- decrease supply new discoveries
-- increase supply technology for better use
-- decrease demand
example: metalsexample: metalsexample: metalsexample: metals
• nonrenewable resource
• discover new sources
• use substitutes (plastic)
• Recycling technology
• nonrenewable resource
• discover new sources
• use substitutes (plastic)
• Recycling technology
Market-guided conservationMarket-guided conservationMarket-guided conservationMarket-guided conservation
• Markets have built-in incentives for efficient resource use
• If a resource becomes scarce Prices rise
• Copper is up 50% in 2006
• Markets have built-in incentives for efficient resource use
• If a resource becomes scarce Prices rise
• Copper is up 50% in 2006
• If prices rise People use less (conserve) People substitute Firms look for new sources Firms look for alternatives
• If prices rise People use less (conserve) People substitute Firms look for new sources Firms look for alternatives
Problems with markets & Problems with markets & nonrenewable resourcesnonrenewable resourcesProblems with markets & Problems with markets & nonrenewable resourcesnonrenewable resources
• Externalities Extraction of oil, metals, natural gas
have huge negative externalities Market results in too much extraction
• Government policies Major tax breaks to domestic energy
producers
• Prices may not be sending the right signals
• Externalities Extraction of oil, metals, natural gas
have huge negative externalities Market results in too much extraction
• Government policies Major tax breaks to domestic energy
producers
• Prices may not be sending the right signals
Doomsday scenariosDoomsday scenariosDoomsday scenariosDoomsday scenarios
• Aka
• “We are running out of everything and we are all going to die”
• Aka
• “We are running out of everything and we are all going to die”
Paul EhrlichPaul EhrlichThe Population BombThe Population Bomb, , 19681968
Paul EhrlichPaul EhrlichThe Population BombThe Population Bomb, , 19681968
• "a major food shortage in the United States in the 1970s. . .hundreds of millions of people are going to starve to death."
• By 1999 U.S. population would be only 23 million(actual 1999 U.S. population = 288 million)
• "a major food shortage in the United States in the 1970s. . .hundreds of millions of people are going to starve to death."
• By 1999 U.S. population would be only 23 million(actual 1999 U.S. population = 288 million)
Limits to GrowthLimits to Growth19741974Limits to GrowthLimits to Growth19741974
World will run out of• gold by 1981• mercury by 1985• tin by 1987• zinc by 1990• petroleum by 1992, and• copper, lead, and natural gas by 1993
World will run out of• gold by 1981• mercury by 1985• tin by 1987• zinc by 1990• petroleum by 1992, and• copper, lead, and natural gas by 1993
An economist’s refutation:An economist’s refutation:An economist’s refutation:An economist’s refutation:
• Julian Simon
• The Ultimate Resource (1983)
• Hoodwinking the Nation (1999)
• Doomsayers underestimate human ingenuity
• Julian Simon
• The Ultimate Resource (1983)
• Hoodwinking the Nation (1999)
• Doomsayers underestimate human ingenuity
Simon vs. EhrlichSimon vs. EhrlichSimon vs. EhrlichSimon vs. Ehrlich
• Made a bet in 1980 for $1000
• Simon bet price of 5 key metals would be LOWER in 1990 Signaling less scarcity
• Simon won. Ehrlich paid Simon offered to renew the bet,
Ehrlich refused
• Made a bet in 1980 for $1000
• Simon bet price of 5 key metals would be LOWER in 1990 Signaling less scarcity
• Simon won. Ehrlich paid Simon offered to renew the bet,
Ehrlich refused
Real concerns about resources Real concerns about resources today:today:Real concerns about resources Real concerns about resources today:today:
• Has natural gas production peaked
• Will oil production soon peak?• Has natural gas production peaked
• Will oil production soon peak?
Hubbert’s curve
• Are we running out of copper?
• Are we past the tipping point on global warming?
BUT….
• Doomsayers need to take some responsibility for lack of world action
• Are we running out of copper?
• Are we past the tipping point on global warming?
BUT….
• Doomsayers need to take some responsibility for lack of world action
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