Factor MarketsChapter 18: Markets for Factors of Production:

Land, Labor, Physical Capital & Human Capital

Capital Goods = Machines Labor = Workers

Spending

Goods andservicesbought

Revenue

Goodsand servicessold

Labor, land,capital & entrepreneurship

Income

= Flow of inputs and outputs

= Flow of dollars

Factors ofproduction

Wages, rent,and profit

FIRMS

HOUSEHOLDS

FACTOR Markets

PRODUCT Markets

Product & Factor Markets

How many inputs to hire?

Quantity0

Price

DemandDemand

MCMCATCATC

MRMR

EfficientscaleEfficientscale

P

Quantityproduced

P

QuantityproducedQuantity

produced

How many goodsto Produce?

Set MR = MC

Land, Labor & Capital?

Demand

Supply

Quantity of

Nurses

0

WageRate

The Market for Nurses

Q

W E1

The Market for Labor

Based on Supply & Demand

Price = Wage Rate

Demand = ProducersSupply = Workers

↑ Demand => Wages rise

↑ Supply => Wages fall

D2

Q2

W2

Derived Demand

• Demand for a factor of production is a derived demand:– Demand for an input (factor) is derived from demand for a firm’s output

↑ Demand for Factors of ProductionLand, Labor, Capital, Technology, etc…

Demand

Product ↑ Leads to

Any change in the PRODUCT MARKET will change demand in the FACTOR MARKET.

Copyright©2003 Southwestern/Thomson Learning

Quantity ofApples

0

Price ofApples

Demand

Supply

Demand

Supply

Quantity ofApple Pickers

0

Wage ofApple

Pickers

The Market for Apples The Market for Apple Pickers

P

Q Q

W

- Demand for apple pickers is derived from the market demand for apples

PRODUCTMarket

FACTORMarket

Marginal Revenue Product (MRP)

• MRP = demand curve for Factors of Production

• MRP = marginal product of input x market price of output– Measures the value in dollars of output produced

• MRP = MP (of input) Price (of output)

If a T-Shirt is $30 dollarsMP labor = 10 Shirts

MRP = 10 X $30 = $300

Marginal Revenue Product (MRP)

• MRP = MP (of input) P (of output)

Qty Total Marginal Price MRP Labor Product Product 1 25 ___ $0.50 ___2 45 ___ ___ ___3 60 ___ ___ ___4 70 ___ ___ ___

Assume Output Price constant at $0.50

MP Price = MRP

Labor Demand Curve

• The MRP of labor = Labor Demand curve

0 Quantity ofApple Pickers

0

Valueof the

MarginalProduct

MRP(demand curve for labor)

MRP(demand curve for labor)

Qty Total Marginal Price MRP Labor Product Product0 01 25 _25 _.50 $12.502 45 _20 _.50 $10.003 60 _15 _.50 $7.504 70 _10 _.50 $5.00

Marketwage

Declining MP reduces value of “next” worker

Practice Problem

• Lesson 2, Activity 44