Factor Markets

Chapter 18

Markets for

Factors of Production

• Factors of production are inputs used to produce goods & services

• Demand for a factor of production is a derived demand:– A firm’s demand for a factor of production is derived from

demand for their own product

Labor markets, like other markets, are governed by the forces of supply & demand

Copyright©2003 Southwestern/Thomson Learning

Quantity ofApples

0

Price ofApples

Demand

Supply

Demand

Supply

Quantity ofApple Pickers

0

Wage ofApple

Pickers

(a) The Market for Apples (b) The Market for Apple Pickers

P

Q L

W

The demand for apple pickers is derived from the market demand for apples

Marginal Product of Labor

• Production Function- illustrates the relationship between quantity of inputs & quantity of output

• Marginal Product of Labor (MPL)- the increase in output from an additional unit of labor– MPL = Q/L or

– MPL = (Q2 – Q1)/(L2 – L1)

As more workers are added

Marginal ProductLabor Declines

Diminishing Marginal Product of Labor:Each additional worker contributes less to production than the prior one

MPL = Q/L

The Production Function

Productionfunction

Quantity ofApple Pickers

0

Quantityof Apples

300280

240

180

100

1 2 3 4 5

Diminishing Marginal Product makes the Production Function becomes “flatter”

Marginal Revenue Product (MRP)

• MRP = The marginal product of input multiplied by the market price of output (measured in dollars)

• MRPL = MPL P

• MRP = Δ in Total Revenue / Δ in Resource QtyQty Total Marginal Price

MRP Labor Product Product0 01 25 ___ ___

___2 45 ___ ___

___3 60 ___ ___

___4 70 ___ ___

___

Price for a competitive firm equals MR & remains constant Assume Price = $0.50

To Maximize Profit

• A competitive firm hires workers up to the point where MRP =Wage

• The MRP curve is the labor demand curve for a competitive, profit-maximizing firm.

MRP & Maximizing Profit

0 Quantity ofApple Pickers

0

Value of the

MarginalProduct

Marginal Revenue Product(demand curve for labor)

Marketwage

Profit-maximizing quantity

When a competitive firm hires labor up to the point where MRP = Wage,

it also produces up to the point at which the P = MC

Worksheet

• Lesson 2, Activity 44

• New Terms: – Marginal Product of Labor– Marginal Revenue Product