Question

Assume that the market for labor is perfectly competitive, and that authorities institute the following policy: All workers must have health insurance, and the employer will pay for 100% of each worker's insurance policy (assume that the cost of the policy is the same for every worker). Use a graph of the labor market to evaluate the effects of this policy on the surpluses of workers, employers, and society as a whole. Who are the winners and losers? Do workers necessarily benefit from this policy? Why or why not? Explain.

Answer 1

figure 1

Labour market can be pictured as a market where labor is demanded and supplied (instead of a commodity) and price of labor can be considered as the wage rates. In the case of labor market, employers are the consumer since they buy labor from workers (who are the suppliers of labor). Let us assume that labor market was at equilibrium at point A in figure 1 where the wage rate paid by the employer = wage rate received by the workers = $w0. Quantity of labor supplied and demanded at this price becomes q0 units.

If employers are forced to pay for the insurance policy of the workers, it would increase the price of labor for them (by the amount of insurance policy). If the insurance policy costs, say $i per worker, this would shift the demand curve of the labor to left from D1 to D2. The employer has to pay an additional amount $i apart from the wages to every worker. This makes hiring labor costly for them. It is similar to taxing a consumer by amount $i if we were to compare it to normal goods market.

Since the price of labor has increased, less amount of labor will be hired.Quantity of labor hired decreases from Qo to Q1.

Wages received by the workers now falls from Wo to W1 and the cost of each worker that the employer has to bear increase from Wo to W1+i.

Surplus of workers (producer surplus)

Producer surplus is the area below the price line and above the supply line. Producer surplus falls by the area highlighted in green in figure 1 (because now the workers receive less wages)

Surplus of employer (consumer surplus)

Consumer surplus is the area above the price line and below the demand line. Consumer surplus falls by the area highlighted in red in figure 1 (because now the employer have to bear additional costs).

For society as a whole, there is a reduction in surplus amounting to red area+green area.

Both the workers and employer are looser in this case simply because both of them face a reduction in their surplus. The workers does not necessarily benefit from this policy because they are forced to take lower wages.