Question

1. The firm’s demand schedule for labour is a negative function of the wage because as the firm uses more labour it has to utilise poorer-quality labour and, hence, pays a lower wage. True or False? Explain.

2. Firms often respond to decreases in demand by laying off some of their workforce. However, some groups of workers are more likely to be laid off than others. Why？

3. Explain why a minimum-wage increase, over a certain range, would lead to a monopsonist actually increasing employment. Given this possibility, could the monopsony argument be relied on to negate the critics of minimum-wage legislation who argue that minimum wages will have an adverse employment effect, and hence harm some of the very people they were designed to help? Could minimum wages ever be applied selectively to monopsony situations?

Answer 1

1) Labor demand curve is downward sloping because it represents value of the marginal product of labor function which is a negative function of labor. This is because marginal product of labor is falling as more and more labor is hired due to diminishing marginal returns to labor. Because each additional worker is paid his marginal product as wage, with lower marginal products, the firm is willing to pay a lower wage. Hence the statement is false.

2) When the firm lays off wrorkers, it typically drops the least skilled ones or the ones that have the lowest marginal products than other. This is the principle to be followed because firm hire labor using VMPL = wage rate rule. If at the current labor VMPL < wage rate, too many workers are hired so firm will lay off those workers who have smaller MPL compared to their wage rate. This is the reason why some groups of workers are more likely to be laid off than others

3) A monopsony is the only demander of the labor services in the labor market. A minimum wage in such a market will increase employment and this implies that the monopsony will increase supply and so price of the product it produces will actually fall. In the presence of minimum wage legislation, it has to pay a higher wage at q2 which implies now it hires more workers and so a minimum wage increases employment for a monopsony.

Generally, minimum wage creates unemployment in competitive market because such markets pay a higher than monopsonist wage and also hire a less labor. In comparison, monopsonist hire less labor as well as pay a lower wage. Minimum wage in this case creates employment, as opposed to the problem of unemployment created under competitive market.  

However, still the monopsony argument cannot be relied on to negate the critics of minimum-wage legislation. A monopsony is typically not present in large number in labor markets. Also the short run effect may be stronger but in the long run, disemployment effect is more robust. Also, the minimum wages cannot be applied selectively to monopsony situations because workers tend to swtich between industries.