Labor Market Core Course

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1 Labor Market Core Course Key Concepts and Policy Issues 1 The Main Objective Basic description of the labor market A framework for economic analysis iscuss some policy applications iscuss some alternative market structures 2 1

2 ow important is the labor market? hy the special attention? Large market (labor share), labor as a factor of production, labor earnings, Labor is the most abundant asset of the poor ork defines who we are! Effect of a (well functioning) labor market Economics growth, poverty reduction Efficiency, fairness Social and political stability 3 Labor Market: Market for hat? Participants: ouseholds/individuals: supply side Firms/employers: the demand side Quantity: number of workers, hours of work Price: the wage rate Institutions, governments, regulators 4 2

3 A Basic Framework Neo-classical approach: market based. Requires assumptions Representative households and firms Labor is homogeneous Information is available to all market participants ages adjust to reflect supply and demand conditions 5 ow Realistic is this approach? Very simplifying assumptions. Models should be judged by how well prediction fit the data. Is it a useful concept in a continuously changing world? Indicates the direction of the change. A long term view of the market. Simple and powerful tool for policy (taxes, minimum wage, migration, demographics, ). 6 3

4 Labor Supply ouseholds decision to supply work: participation + hours ouseholds maximize U(C,L) subject to the constraints 1. C < x + non labor income 2. L < 24 - Participation rule: o not participate if Reservation age () { Participate if > Reservation age () ours: Income vs. Substitution effect 7 Labor Supply Supply

5 Labor Supply hat influence the reservation wage? Non labor income (husband s income, cash grants, etc.) Preferences (e.g. number of children) hat are the effect of changes in the reservation wage? hat determines the elasticity of labor supply? Income and substitution effects 9 Labor emand Firms (employers) decision. erived emand: Firms face demand for their output, they hire workers to satisfy that demand Maximize profits=p*y-, where Y=F(). 10 5

6 Labor emand 2 1 emand Labor emand hat Shifts the emand? Changes in marginal productivity of labor? Changes in aggregate demand 2 1 emand

7 Labor emand hat determines the elasticity of demand? Elasticity of demand for output Labor share in total cost Supply elasticity of other factors of production Elasticity of substitution (labor vs. Capital) emand 1 13 Labor Market Equilibrium Labor supply meets labor demand. ages will continue to adjust until the equilibrium condition is satisfied. Example: what happens when wages exceed their equilibrium level? 14 7

8 Graphic Representation Supply * emand * 15 Labor Market Equilibrium hen market conditions change the equilibrium will change (Supply and emand shifts) Is it a useful concept in a continuously changing world? Indicates the direction of the change. A long term view of the market. Simple and powerful tool for policy (taxes, minimum wage, migration, demographics, ) 16 8

9 The effect of increase in labor supply Supply * * emand 17 The effect of increase in labor demand Supply * * emand 18 9

10 Policy Issues Employment creation: payroll taxes and employment subsidy Unemployment Minimum wage: competitive market Covered vs uncovered sector Capital and labor mobility 19 Employment Creation Payroll taxes (e.g. imposed on employers to finance health insurance, or social security) Employment subsidy 20 10

11 Payroll Tax: The emand Curve 0 Cost of labor 0 -t Take ome 0 21 Payroll Tax: Equilibrium Supply Cost of labor 0 Take ome

12 Employment Subsidy: The emand Curve 0 + t Take ome 0 Cost of labor 0 23 Employment Subsidy: Equilibrium Supply Take ome 0 Cost of labor

13 Unemployment Market clearing conditions are not always satisfied age rigidity Institutions: Minimum wage, unions Implicit contracts (risk averse workers) Efficiency wages (information asymmetry) Transaction costs Labor turnover Search activities 25 Minimum age: Competitive Market Unemployed Supply 0 emand Labor emanded 0 Labor Supplied 26 13

14 Covered and Uncovered Sectors Covered Unionized Public Sector Minimum age S Uncovered Non union Private Informal Sector S S Labor Migration 27 Covered and Uncovered Sectors Covered Unionized Public Sector Minimum age S Uncovered Non union Private Informal Sector S Capital Migration 28 14

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