Question

This question will concern the demand for labor.

(a) Show graphically how, under monopsonistic conditions, a mandated wage can increase the amount of employment demanded by the firm.

(b) Argue analytically, using the firm’s problem, how a mandated wage can increase employment demanded by the firm (Hint: you will need to assume concavity of the production function)

(c) State some conditions under which a mandated wage can actually decrease demand for labor under monopsonistic conditions both in the short run and in the long run.

(d) Show graphically, on the same graph, the changes in employment corresponding to a wage increase due to a mandated wage and a shock to labor supply change the employment demanded for a demand curve and a more inelastic demand curve. Assume we are now referring to the competitive model.

Answer 1

In a competitive market, workers receive wages equal to their MRPs. Workers employed by monopsony firms receive wages that are less than their MRPs. In a competitive market, the imposition of a minimum wage above the equilibrium wage necessarily reduces employment. In a monopsony market, however, a minimum wage above the equilibrium wage could increase employment at the same time as it boosts wages! Now let us look at this graphically. (Please see attached image)

in above figure : "Minimum Wage and Monopsony” shows a monopsony employer that faces a supply curve, S, from which we derive the marginal factor cost curve, MFC. The firm maximizes profit by employing Lm units of labor and paying a wage of $4 per hour. The wage is below the firm’s MRP.A monopsony employer faces a supply curve S, a marginal factor cost curve MFC, and a marginal revenue product curve MRP. It maximizes profit by employing Lmunits of labor and paying a wage of $4 per hour. The imposition of a minimum wage of $5 per hour makes the dashed sections of the supply and MFC curves irrelevant. The marginal factor cost curve is thus a horizontal line at $5 up to L1units of labor. MRP and MFC now intersect at L2 so that employment increases.

Marginal factor cost is affected by the minimum wage. To hire additional units of labor up to L1, the firm pays the minimum wage. The additional cost of labor beyond L1 continues to be given by the original MFC curve. The MFC curve thus has two segments: a horizontal segment at the minimum wage for quantities up to L1 and the solid portion of the MFC curve for quantities beyond that.

The firm will still employ labor up to the point that MFC equals MRP. In the case shown above “Minimum Wage and Monopsony”, that occurs at L2. The firm thus increases its employment of labor in response to the minimum wage.