Question

2. If policy makers are considering raising the minimum wage do they prefer to see inelastic labor demand or elastic labor demand. Provide a full explanation.

Answer 1

2) The demand for labour can be defined as the amount of labour required by the firm to produce its output. The elasticity of labour demand is the measure of change in the labour demanded in response to change in the market wages.

When expenses on labour form a large portion of total costs, then the labour demand will be more elastic. Higher the proportion of labour expenses to total cost, greater will be the elasticity. Also, cases where specialised inputs (labour and capital) are needed, the labour demand will be more inelastic.

When minimum wage is increased, the labour gets costly (wages is the cost of labour). Hence, the rise in the level of minimum wage leads to a fall in the level of employment. In case of inelastic labour demand, a rise in the level of employment will not effect the employment level much. In the case of elastic labour demand, the substitution of capital over labour is easier as compared to inelastic labour demand. This is more cost efficient for a firm in case the minimum wage rate has to be increased.

Thus, policy makers will prefer to see elastic demand of labour.

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