Question

1. What are the key factors that affect the wage determination in the labor market?

2. Describe the medium-run equilibrium in the labor market. Discuss the naturalness of the natural rate of unemployment.

Consider the Phillips Curve equation in its general form: πt = πte + (m + z) − αut. Explain the relationship between the rate of unemployment and the inflation rate when a) inflation expectations are anchored and b) inflation expectations are adaptive.

Answer 1

Q1. The major factors which affect the wage determination in the labor market are:

1. Ability to Pay: This factor depends upon industry wage standards, labor union and government wage regulation and the profitability of the sector.

2. Demand and Supply: Higher demand of labors with required skills leads to an ncrease in the wages. While lower demand reduces the requirement thus lowering the wages to be paid.

3. Cost of Living: Wage rates are highly influenced by the cost of living, the reason being city allowence and house rent allowences are paid by the firms. Cities with high cost of living has high pay as well.

4. Trade Unions: The wage rates are also influenced by the bargaining power of trade unions. Stronger the trade union, higher will be the wage rates.

5. Productivity: Productivity is the contribution of the workers in order to increase output..Wage increase is sometimes associated with increase in productivity. Workers may also be offered additional bonus like performance linked pay, gifts, promotions, etc., if productivity increases beyond a certain level.