Long Run Labor Demand

1. Long Run Labor Demand Lectures in Microeconomics-Charles W. Upton

2. The Short Run Demand For Labor $ • The VMP curve is the short run labor demand curve. • When the wage rate is wo, Lo workers are demanded • When the wage rate is w1, L1 workers are demanded wo w1 Lo L1 L Long Run Labor Demand

3. Long Run Labor Demand K Lets see what happens when the firm can change its other input. Ko Qo L Long Run Labor Demand Lo

4. Long Run Labor Demand K Lets see what happens when the firm can change its other input. Here is the initial production isoquant Ko Qo L Long Run Labor Demand Lo

5. Long Run Labor Demand K Now the firm expands and moves to Q1 K1 Q1 Ko Qo L Long Run Labor Demand Lo L1

6. Long Run Labor Demand K Now the firm expands and moves to Q1 K1 Note that here the demand for labor has declined! Q1 Ko Qo L Long Run Labor Demand Lo L1

7. Long Run Labor Demand K Expansion Line K1 Q1 Ko Qo L Long Run Labor Demand Lo L1

8. Long Run Labor Demand K Expansion Line K1 We would normally expect an increase in output to lead to a increased demand for both factors. Q1 Ko Qo L Long Run Labor Demand Lo L1

9. Long Run Labor Demand K Expansion Line K1 We would normally expect an increase in output to lead to a increased demand for both factors. That need not be the case. Q1 Ko Qo L Long Run Labor Demand Lo L1

10. The Effect of a Change in Wage Rate K Let’s see what happens when wages change. Initially the firm is employing L* workers. w L L* Long Run Labor Demand

11. The Effect of a Change in Wage Rate K Now, the wage rate falls to w`. If the firm kept producing the same amount of output, we would substitute labor for capital. w w` L L* L** Long Run Labor Demand

12. The Effect of a Change in Wage Rate K MC But there is more to the story. What happens to MC? w w` L L* L** Q* Long Run Labor Demand

13. The Effect of a Change in Wage Rate K MC It probably moves to the right. (Note that this is a fall in MC). w w` L L* L** Q* Long Run Labor Demand Q**

14. The Effect of a Change in Wage Rate K MC It probably moves to the right. (Note that this is a fall in MC). Ergo, the firm increases output w w` L L* L** Q* Long Run Labor Demand Q**

15. The Effect of a Change in Wage Rate K MC It probably moves to the right. (Note that this is a fall in MC). Ergo, the firm increases output So we have two effects on labor demand: w w` L L* L** Q* Long Run Labor Demand Q**

16. The Effect of a Change in Wage Rate K MC Substitution Effect (Lower wages mean more demand for workers) It probably moves to the right. (Note that this is a fall in MC). Ergo, the firm increases output So we have two effects on labor demand: w w` L L* L** Q* Long Run Labor Demand Q**

17. The Effect of a Change in Wage Rate K Scale Effect (Lower wages may mean changed output and that maymean less demand for workers) MC Substitution Effect (Lower wages mean more demand for workers) It probably moves to the right. (Note that this is a fall in MC). Ergo, the firm increases output So we have two effects on labor demand: w w` L L* L** Q* Long Run Labor Demand Q**

18. The Two Effects Change in Quantity of Labor Demanded = Substitution Effect + Scale Effect Long Run Labor Demand

19. The Two Effects Change in Quantity of Labor Demanded = Substitution Effect + Scale Effect In general, we expect the substitution effect will dominate even if the scale effect is negative. Long Run Labor Demand

20. End ©2006 Charles W. Upton Long Run Labor Demand