Question

a) Describe the factors that shift labour demand and supply curves of a city. Suppose a city improves its residential public services. Explain the changes of labour demand and supply curves, if any.

b) Using related axioms and examples, explain the reasons why do firms cluster.

Answer 1

(a) Labour demand and supply schedules give the amount of labour supplied or demanded at different wage rates. Labour demand is downward sloping because at higher wages, less labour is demanded by the producers. Conversely, labour supply is upward sloping becasue at higher wages, workers supply more labour because opportunity cost of leisure increases. Although, the concept of backward bending labour supply is very valid, we generally assume an upward sloped curve while analysing models. They can shift due to various factors.

1. Labour demand can shift due to:

• Change in production technology of goods which may require more labour than before or lesser than before. Automisation of manual labour is shifting the labour curve to its left.
• Change in demand for goods produced by labour will indirectly cause a shift in labour demand curve.
• Government policies creating a different labour law scenario can also affect the labour demand curve. Countries with liberal labour laws experience higher labour demand.

2. Labour supply can shift due to:

• Market conditions: Poor market conditions with low wages may discourage workers to quit the labour force and vice versa.
• Population: Countries which might experience chande in demographics. Eg: A calamity may render workers unable to work, brain drain may reduce labour force etc.
• Incentives: provided by either the employers or the government may change labour force and shift the supply curve. Likewise, incentives withdrawn like higher taxation on income etc may shift the labour supply to the left.

If a city improves its residential public service, conditions for labour force are improved and hence, there will be inflow of labour in that city. This will increase the labour supply and shift the curve to the right.

(b) It is general experience that firm tend to come up in concentrated geographical areas. There are valid reasons behind this phenomenon:

• Raw materials: industries that are heavily dependent upon raw materials and need it at short notices tend to spring up near the industries supplying them. This creates a concentrated cluster of industries belonging to the same product chain.
• Transportation costs are greatly reduced when distance between intermediate industries are lower.
• Resource pooling: Industries located close to each other can benefit from pooling of common resources such as: water sources, worker residential areas, consultancy services etc.
• Knowledge spillover: although its relevance has reduced with today's technology allowing lightning fast communication. However, it still serves the purpose because new techniques and knowledge is spilled to firms closeby via labour and service providers that help bring efficiency into operations.

Thanks!