Labor Economics
Labor Supply
(Sources: Various references - common knowledge)
1. Meaning of Labor Supply
Amount of individuals willing and able to offer their labor for the going wage and benefits in a certain period of time.
All individuals in the U.S. population age 16 and older, either in the Labor Force and employed or unemployed, or not in the Labor Force.
2. Labor Force
Individuals (usually civilian, not in an institution) in the population age 16 and older who are actively seeking a job or are working.
Those not in the labor force then include:
Remember – it is the labor force that is used to determine the unemployment rate – not the population as a whole.
3. Labor Force Participation Decisions
Choices we have in labor markets:
a. Be self employed or professional - considerable amount of freedom, with income and hours we work (entrepreneurs, doctors, lawyers, professors, etc.). Often work over 40 hours per week - is this expected or is it a choice?
b. Choose diverse hours in your job - some industries operate on a shorter schedule or longer schedule (manu., mining, ag.)
c. Can choose part-time
d. Choose employment that is not for the entire year (teachers, athletes, seasonal work).
e. Choose overtime work.
f. Choose moonlighting: working 2 or more jobs.
g. Choose leave without pay.
h. Choose shift time - different time to work.
Or - Institutional Model - No Choices
a. Choice is limited by a lot of institutions - class restrictions
b. Sex restrictions
c. Race restrictions
d. Religious restrictions
4. Labor-Leisure Trade-Off
Individual Labor Markets
Consider the market for accounting services, where accountants are self-employed.
On the x-axis, we have the number of hours worked or "sold"; on the y-axis, we have the price of an hour of labor, generally known as the "wage."
How does the supply of accounting services relate to the market wage?
1. Number of people in the occupation.
2. Number of hours people in the occupation work.
It is clear (at least to economists) that the number of people in the accounting occupation will increase as the market wage rises, especially over a longer time horizon.
The second effect is more complicated. Economists call this the labor/leisure trade-off, with "leisure" being the amount of your time you decide NOT to sell on the market.
Since you have 168 hours in a week, when you pick your hours of labor L, you simultaneously pick your hours of leisure (168-L).
While employers rarely let people "pick their own hours," people can choose their occupations and employers to try to match their desired labor/leisure mix (at least in the choice model).
What determines the number of hours an accountant wants to sell? If we mechanically apply the law of supply to labor, we discover that the higher the "price" of labor, the more labor people want to sell. This is known as the substitution effect.
But there is a major complication: Normally, sellers of a good consume little of their own product. Orange growers, for example, spend less than 1% of their income on oranges. However, sellers of labor consume an ENORMOUS amount of their own product; even the most extreme workaholic consumes 50% of his own hours in leisure.
Why is this important? An increase in the price of what you sell makes you richer, enabling you to afford more of everything. If you already consume a lot of what you sell (your hours), then as the price of your product (your wage) rises, your tendency to buy more of everything (including your own product - your hours of leisure) as you get richer may overpower your tendency to sell more of your product (work) as its price rises. This is known as the income effect.
Somewhat shocking implication: For products that are a large percentage of their budget - such as their own time - suppliers might actually sell LESS as the price rises, not more, as economists usually assume.
Individual supply curve might be "backwards-bending."
Implausible? Suppose your real wage was $10 an hour. How many hours a week would you work? What about $5? $1? $.10? Almost everyone's labor supply curve will "bend backward" at some point.
Still, for one occupation, the effect of a higher wage on the number of people in the occupation will almost surely ensure that the labor supply curve has its usual upward slope.
Aggregate Labor Markets
If you add up everyone's labor supply curves, and abstract from differences between workers, you can draw the Aggregate Labor Supply curve. This curve shows the total number of hours people will choose to work at given wages.
For a single labor market, occupational choice basically guarantees that labor supply slopes upwards. But for the labor market as a whole, that doesn't really work.
Depending on the relative strength of the substitution and income effects, then, the Aggregate Labor Supply curve could be positively or negatively sloped.
Empirically, males in the past did sell far more hours of their time than they do today. It definitely looks like the income effect was greater than the substitution effect in their case: as real wages increased, men have worked less.
Women sold far fewer than they do today, but this is a clear case where fun and "leisure" are different!
Big effect for women: development of machines to do household tasks leaves them with surplus time, which more and more have chosen to sell.
Also – major cultural changes – Choices increased for women and the kind of choices they are making have changed.
Big question: Do most women work because they want to or because they “have” to?
In any case, for most purposes – in mainstream theory, it is more or less reasonable to assume that the Aggregate Labor Supply is vertical.
1. Typical hours of work have stopped falling for the past couple decades.
2. Intuitively (and according to mainstream theory), how many adult males want less than a 40-hour/week job?
Throughout this course, then, the Aggregate Labor Supply curve will often be drawn as vertical.
Labor Force Participation Rate
= Labor Force/Population 16 and over or the % of this population who want to work
Employed - paid labor in last week for at least 1 hour or work 15 hours for a family business.
Unemployed - laid off from job waiting to return, actively seeking job, have to look for job in last 4 weeks.
Labor Force Participation Rate Depends on:
a. unemployment -
b. discouraged worker effect -
c. added worker effect -
d. schooling -
e. increase in real income -
f. increase in age of marriage -
g. decrease in fertility -
h. increase demand for service jobs -
i. increase in single parent families/divorce -
j. availability of daycare -
k. fast food -
l. substitution of capital for labor in household -
m. changes in cultural norms -
Trends:
Men:
Women:
Largest determinant:
Married women work less, married men work more.
Factor of women: husband's income - higher the income, women less likely to work.
Labor Supply Elasticity
How responsive is labor supply to a change in wage?
Els = % change in hours of work / % change in the wage rate
Men: income effect small - 10% wage increase leads to 1% drop in work (negative)
Women: low as well - substitution effect higher (go from not working to working)
Cross Wage Elasticity - husband's wage and wife working?
Your ideas?
Labor Supply Over Life Cycle
A person makes decisions given idea about their life cycle and how much money they will make in their lifetime (not
wealth but income from working).
Depends upon how good they are at looking into the future.
Most Workers the Path Looks like this:
Example: Joe and Jack (different lifetime earnings path)
Here's the problem: Joe has a higher wage and therefore gives up more if he doesn't work. However, he also has a higher lifetime
income and therefore may choose to work less. Which will dominate? Substitution or Income?
This life-cycle approach suggests a link not only between wages and hours of work, but also between wages and labor force participation rates (how long in the labor force, etc.)
Reservation Wage:
the lowest possible wage someone will accept to enter the labor force.
Compare market wage with reservation wage -- happens each year in the lifecycle.
If the reservation wage stays constant over time -- people will enter when wages are high, therefore labor force participation will be low for young workers, high for workers in their prime working years, and low again for older workers.
But the reservation wage might change - having children,
Conclusion: a person works fewer hours when wage is low and vice versa. The evidence indicates that the wage is relatively low for young workers, increases as workers mature and accumulate human capital -- then decrease slightly for older workers.
So therefore the profile of work over the life cycle will have the same shape as the age-earnings profile.
Household and Family: We will also look at Family Decisions and Household Production Theories later (that also might impact labor supply decisions).