Question

2. Consider the example we did in class concerning the labor market.

a. Explain why demand represents firms in this case.

b. Draw a labor market where the equilibrium wage (price) is $8.00 and the equilibrium quantity is 20. Label the consumer and producer surplus in this market.

c. Now consider the case where the government imposes a $10 minimum wage. Draw a new graph that shows how the market changes. Label the new consumer surplus, producer

surplus and the deadweight loss.

d. Explain why deadweight loss has occurred in the market. Will all workers support this policy that is meant to increase their producer surplus? Why or why not?

Answer 1

Ans-a) Demand in a labor market represents the firms because the labor services of workers are consumed by firms for their production activities. The firms are the buyer of worker's services . Hence , the demand of labor represents the firms.

Ans-b) Initial Labor Market Equilibrium -:

The market attains equilibrium at pointg E where equilibrium wage = $8 and equilibrium number of workers employed = 20 .

Ans-c) The figure after minimum wage = $10.

Setting a minimum wage above the equilibrium render some people unemployed and creates a dead weight loss = ABE.

Consumer surplus decreases = ACW1

Producer surplus increases = DBAW1.

Ans-d) Dead weight loss occurs due to market inefficiency . Now the case of minimum wage here (above from equilibrium point disrupts the market equilibrium and create a dead weight loss because at this minimum wage demand of labor is not equal to suplly of labor . There is excess supply of labor in the economy at this minimum wage which leads to inefficient allocation due to decrease in consumer surplus to firms but increase in producer surplus to the workers. This creates excess burden on firms (of higher costs) and on workers who have lost job.

All workers would not support this policy because a minimum wage higher than the equilibrium will increase the cost to firms and subsequently they will demand less labor services. This would create an excess supply of labor but since the demand is less , some workerfs would be left unemployed and will have to exit the workforce required by firm , especially it would bve difficult for the low skilled workers to find job .

Therefore , A higher minimum wage though would increase the wage bill but will also lead to unemployment.