Question

When the analysis is warranted, more credit will be given for answers that use the diagrams presented in class. More credit will also be given for answers that include a “story” providing an intuitive explanation of the situation. For stats-book questions, more credit will be given for more specific answers.

The prices of products and the wages paid to labor each change over time. Describe how prices and wages have changed over time. For your description of wage changes, include a description of how nominal and real wages change

Answer 1

Let us first discuss what nominal and real wage is then will discuss what the effects of price are on that is and how it changes over time.

Nominal wage: Nominal wage is the wage which is paid by the employer to an employee.

Figure: 1

On the above picture LD is the labour demand curve and LS is the labour supply curve. The equilibrium wage is W0 and the quantity serve by the labour is Q0. W0 is the nominal wage.

Real wage: The wage by which the total amount of goods and services can be brought or in other words the wage which is not estimated by money which is estimated by the purchasing power.

The relation between real wage and nominal wage is:

Real wage = Nominal wage / Price

If the real wage has been increased by 10% but there is also an increment in inflation of 4% then the price will also increase due to inflation then the real increment of wage will be much lesser than the nominal one.

The real wage is strictly related to the price of goods and services. So as per the logic a employees always paid in real terms as there are always an existence of inflation of all economy. If the price increases then the real income will fall and also the real income increases if the price of goods falls. So there is an inverse relation in between real wage and the price.

Figure: 2

In this figure 2 let us consider the real wage will be W1 as there will always be an inflation which will lead to increase the price. So the real wage will be lesser than the nominal wage.