Chapter 1

Introduction to Labor Economics

Copyright © 2008 The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

Labor Economics, 4th edition

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Why study Labor Economics?

• Human resources allocate substantial time and energy to labor markets

• Labor economics studies how labor markets work

• Labor economics helps us understand and address many social and economic problems facing modern societies

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Basics of the Labor Market

• Participants are assigned motives:

- Workers look for the best job

- Firms look for profits

- Government uses regulation to achieve goals of public policy• Minimum wages• Occupational safety

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Three “Actors”

• Workers

- The most important actor; without workers, there is no “labor”

- Desire to optimize (to select the best option from available choices) to maximize well-being

- Will want to supply more time and effort for higher payoffs, causing an upward sloping labor supply curve

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Three “Actors”

• Firms

- Decide who to hire and fire

- Motivated to maximize profits

- Relationship between price of labor and the number of workers a firm is willing to hire generates the labor demand curve

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Three “Actors”

• Government

- Imposes taxes, regulations

- Provides ground rules that guide exchanges made in labor markets

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Summary: the Three “Actors”

T h re e A c to rs in th e L a bo r M a rke t

W o rke rsS u p p ly lab o r fo r pa yo ff

F irm sD e m a n d la b or g ive n p rice o f la b or

a n d d e sire fo r p ro fits

G o ve rn m e ntT a xes

R e g u la tio nsR u les o f e xch an ge

L a b or M arke t

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Why Do We Need a Theory?

• Explain and understand how labor markets work

• Focus on the essential variables while leaving out other, less crucial, factors

• Create a model that helps explain the theory

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Positive vs. Normative Economics

• Positive economics- Addresses the facts- Focus on “what is”- Questions answered with the tools of economists

• Normative economics- Addresses values- Focus on “what should be”- Requires judgments

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Supply and Demand in the Engineering Market

Equilibrium

50,000

40,000

30,000

20,00010,000 30,000

Labor Supply Curve

Labor DemandCurve

Earnings ($)

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The Alaskan Labor Market and Construction of the Oil Pipeline

D0

D1

S0

Earnings ($)

Employment

w1

w0

E1E0

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Wages and Employment in the Alaskan Labor Market, 1968-1983

50,000

70,000

90,000

110,000

130,000

150,000

170,000

190,000

210,000

230,000

250,000

1968 1970 1972 1974 1976 1978 1980 1982 1984

1,500

2,000

2,500

3,000

3,500

4,000

4,500

Employment Monthly Salary ($)

Employment

Wage

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The Regression Line

Log Wage

Slope =

Change in log wage

Years of SchoolingChange in schooling

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Scatter Diagram: Wages and Schooling by Occupation, 2001

2

2.5

3

3.5

4

8 10 12 14 16 18 20

Years of schooling

Lo

g w

ag

e

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Choosing Among Lines Summarizing Trends in the Data

2

2.5

3

3.5

4

8 10 12 14 16 18 20

Years of schooling

Lo

g w

age

A

B

C

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The Scatter Diagram and the Regression Line

2

2.5

3

3.5

4

8 10 12 14 16 18 20

Years of schooling

Lo

g w

age

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End of Chapter 1