Download - Supply of Labour
-
7/27/2019 Supply of Labour
1/15
Supply of Labour Market:Theoretical Framework
1
-
7/27/2019 Supply of Labour
2/15
Background
2
Economics deals with the resources that are scarce in nature
Market generates efficient outcomes
Various market structure
AssumptionsPerfect information
Uniform price for homogeneous goods
No perfect information
Stigler (1962)
Asymmetric information
Two types of Asymmetric information ex-ante and ex-post
Hidden information problemAkerlof (1970)
Purchase of used motor vehicles example
Social structure
Example
-
7/27/2019 Supply of Labour
3/15
Background - Job shopping problem
3
Stigler (1962) As Stigler (1962) put it:
The information a man possesses on the labour market is capital: it wasproduced at the costs of search, and it yields a higher wage rate than onaverage would be received in its absence (p.154)
Strategy for shopping
Dispersion in wage offers
Stiglers study of 44 graduates
Major limitations Decision is based on optimal sample size problem Cost of job search appears to be zero
Wage offers are given- Individuals are to make choices on offers thatthey received
Pragmatically, wage distribution is known, but which firm offers thatwage is unknown
Search
-
7/27/2019 Supply of Labour
4/15
Neo-classical model of labour-leisure choice
4
Time allocation between the labour market and leisure
Ignore household activities
ObjectiveMaximize the utility; higher the utility, higher
the happiness Both C and L are goods
Utility maximization depends on the particular combination
of C and L
the locus of many points representing the combinations ofC and L generate a particular level of utility, called IC
Characteristics of indifference curve
( , )U f C L
-
7/27/2019 Supply of Labour
5/15
The time and budget constraints
5
Constraints imposed by time and budget
Time constraint
Two types of income: Labour income and non-labour income
Budget constraint ( C = wh+V)
wh is the labour earnings and v is the non-labour income
Assumption: same hourly wage regardless of how many hours he/sheworks
Rewrite budget constraint C = wh+v
C = w (T-L) +v
= wT-wL+V
C + wL = wT+V
Right hand side: full time income generates from devoting full time tothe labour market (labour earnings + non-labour earnings)
The left hand side: the way in which income is being spent, betweenconsumption goods and leisure activities (wL is the forgone earningsassociated with consuming leisure activities)
T L h
-
7/27/2019 Supply of Labour
6/15
Figure 4
6
Point E is the endowment point
Numerical example
wT+v
v E
Hours of leisure
-
7/27/2019 Supply of Labour
7/15
Factors motivate a person to enter the labour market
7
Reservation wage
Reservation wage is greater than offer wage
Reservation wage is less than offer wage
Non-labour income and the reservation wage
Being leisure a normal good, the reservation wage tend to rise as non-labour income increases
There are two distinct effects on work incentives
Reduces the chances of being employed in the labour market
Reduces the number of hours allocate in the labour market
-
7/27/2019 Supply of Labour
8/15
Do people respond to incentives?
8
One of the fundamental economic principles An incentive is something that induces a person to act
Rational people respond to incentives
Example: when wages start rising, people decide to participate
in the labour market
A tax on gasoline encourages people to drive smaller and more
efficient cars
Implementing speed governors
-
7/27/2019 Supply of Labour
9/15
Backward bending supply curve
9
Backward bending supply curve is one of the many possible supply curves
The link between wage rates and hours of work
Rs 10 is the reservation wage, below which the workers does not enter the Labourmarket
The worker enters the labour market, only if wage is greater than RS 10
There are two segments: Upward and backward bending
The upward slope indicates that the substitution effects dominate the income effects
the backward bending segment represents that income effect dominates the substitution
effect
Wage rate
Hours of work
Labour supply curve
-
7/27/2019 Supply of Labour
10/15
Theory at work The laffer curve
10
Relation between tax rates and tax revenue
Increase in the income tax rate initially increases tax revenues. Aftersome tax rate of t per cent tax system is confiscating labourearnings and further increase on tax rates shackle the creativity andproductivity of the labour force and reduce tax revenue
When income effects dominate, an increase in the tax rate leads toincrease hours of work, because the decrease in income encourages
workers to consume less leisure. An increase in the income tax rateincreases tax revenue, and gives rise to the upward sloping portion
this does not support the argument that income tax cuts couldincrease tax revenues in the United States
-
7/27/2019 Supply of Labour
11/15
Household production function
11
A simple model that represents two married persons A and B
Maximize utility, which in effect depends on the value of the
goods from the market place and commodities that they
produce in the household
Time available for both activities = 10 hours (Labour market
and household)
Allocation of weekly hours (remaining 14 hours for personal
care and leisure)
The labourmarket
Thehousehold
sector
Personalcare
Passiveleisure
Other
-
7/27/2019 Supply of Labour
12/15
Household production function
12
Interesting question-allocation of 10 hour betweenlabour market and non-market sector?
Three different feasible conditions
Condition 1: Both decide to allocate all of their time to
the household Condition 2: B (Wife) specializes in the labour market
and A (Husban) specializes in the household sector
Condition 3: A specializes in the labour market, and B
divides her time between household and labour market
-
7/27/2019 Supply of Labour
13/15
13
Men Women
1965 1981 1965 1981
Labour market 51.6 44.0 18.9 23.9
Household work 11.5 13.8 41.8 30.5
Leisure 36.7 41.8 35.4 41.9
Personal care 68.2 68.2 71.9 71.6
The allocation of time- empirical evidence
-
7/27/2019 Supply of Labour
14/15
Labour supply elasticity
14
Percentage change in hours of work due to
percentage change in wage rate. Or, the responsiveness of hours of work to changes
in the wage rate
It gives the percentage change in hours of workassociated with a 1 percent change in the wage rate.
The sign of the labour supply elasticity depends on theupward and downward slope of the labour supplycurve
The labour supply elasticity is positive when the
substitution effects dominates, and is negative whenincome effect dominates
Example
-
7/27/2019 Supply of Labour
15/15
Thank you
15