factors affecting the supply of labour to a firm or to an occupation: wage and non-wage factors

Labour Market – Demand, Supply and Government Intervention (Cambridge 9708)

Learning objectives

• Explain why firms demand labour (derived demand) and how the marginal revenue product (MRP) determines the labour‑demand curve.
• Identify and evaluate the wage‑related and non‑wage‑related factors that shift the labour‑supply curve.
• Analyse wage determination in both perfectly competitive and imperfectly competitive labour markets (monopsony, trade‑union bargaining, efficiency‑wage).
• Assess how government policies affect the position of the demand and supply curves and the resulting equilibrium wage and employment.

1. Demand for labour

1.1 Derived demand

Firms do not demand labour for its own sake; they demand it because it helps produce a good or service that is itself demanded by consumers. The quantity of labour demanded therefore depends on:

• The level of demand for the final product (product‑market demand). If the market for the final good contracts, the derived demand for labour falls even when technology is unchanged.
• The technology used to produce that product (productivity of labour).

1.2 Factors that shift the labour‑demand curve (non‑price determinants)

Factor	Effect on labour demand
Product price (P)	Higher P raises the marginal revenue product (MRP) of each worker → labour‑demand curve shifts right.
Technology (productivity)	Improved technology raises the marginal product of labour (MPL) → higher MRP → right‑ward shift.
Input prices (capital, raw materials, energy)	Higher non‑labour input costs reduce profitability, lowering MRP → left‑ward shift.
Expectations of future product demand	Positive expectations encourage firms to hire more today; negative expectations cause the opposite.
Number of firms in the market	More firms increase total labour demand; fewer firms decrease it.

1.3 Movements along vs. shifts of the labour‑demand curve

• Movement along the curve: Change in the real wage w while all non‑price determinants remain constant.
• Shift of the curve: Change in any of the factors listed above.

1.4 Marginal Revenue Product (MRP) theory

The MRP of labour is the additional revenue a firm receives from employing one more worker:

MRP_L = MPL × MR

where MPL = marginal product of labour and MR = marginal revenue from the product. The labour‑demand curve is the **downward‑sloping portion of the MRP curve** (the part where MRP > wage).

2. Supply of labour

2.1 Theoretical framework

The quantity of labour supplied (L_s) is a function of the real wage (w) and a set of non‑wage determinants (X):

L_s = f(w, X)

X includes working conditions, location, training opportunities, demographic characteristics and government policies.

2.2 Wage‑related factors (shift the supply curve)

• Real wage rate – Higher real wages increase the opportunity cost of leisure, shifting the supply curve outward.
• Expected future wages – Anticipation of higher future pay may lead individuals to postpone labour‑market entry (e.g., longer schooling).
• Wage differentials across occupations – Larger differentials attract workers to higher‑paying occupations, altering the supply to each sector.
• Taxation and social‑security contributions – Reduce the net wage; a higher tax rate can shift the supply curve leftward.
• Minimum‑wage legislation – Sets a statutory floor; if the floor is above the equilibrium wage for low‑skill workers, the effective wage rises and the supply of those workers can increase.

2.3 Non‑wage factors (shift the supply curve)

2.3.1 Working conditions

• Physical safety, health risks, ergonomics.
• Job stress, hours of work, flexibility, shift patterns.
• Presence of trade unions or collective‑bargaining agreements.

2.3.2 Location and mobility

• Geographical proximity to the workplace.
• Cost and reliability of transport.
• Migratory costs, immigration restrictions, and family ties.

2.3.3 Training, career progression and skill acquisition

• Apprenticeships, on‑the‑job training, further education.
• Opportunities for promotion and professional development.
• Certifications that raise future earnings potential.

2.3.4 Demographic and social factors

• Age, gender, marital status, childcare responsibilities.
• Cultural attitudes toward particular occupations (e.g., gender‑segregated jobs).
• Health status, disability and access to reasonable accommodations.

2.3.5 Institutional and policy influences

• Immigration policy – determines the size of the migrant labour pool.
• Education policy – affects the supply of qualified workers.
• Labour‑market regulations – maximum working hours, health & safety standards, statutory leave.

2.4 Movements along vs. shifts of the labour‑supply curve

• Movement along the curve: Change in the real wage w while non‑wage determinants remain constant.
• Shift of the curve: Change in any non‑wage factor (e.g., a new childcare subsidy, a rise in migration costs, improved working conditions).

3. Wage determination

3.1 Perfectly competitive labour market

In a perfectly competitive market, firms are wage‑takers. The equilibrium wage (w*) is where the labour‑demand curve (derived from MRP) intersects the labour‑supply curve.

3.2 Imperfectly competitive labour markets

3.2.1 Monopsony

• Single (or dominant) buyer of labour.
• Labour supply curve is upward‑sloping; the firm faces the whole marginal‑cost‑of‑labour (MCL) curve, which lies above the supply curve.
• Equilibrium wage is lower and employment is below the competitive level.

3.2.2 Trade‑union bargaining

• Unions negotiate a wage above the competitive level.
• Two common models:
  1. Wage‑setting (union) curve: Shows the wage unions are willing to accept for each level of employment.
  2. Employment‑setting (firm) curve: The labour‑demand curve.
• The negotiated wage is where the two curves intersect; employment is typically lower than in a competitive market.

3.2.3 Efficiency‑wage theory

• Firms may pay a wage above the market‑clearing level to increase worker productivity, reduce turnover, or discourage shirking.
• Result: higher wage, possibly lower employment, but higher overall output per worker.

3.2.4 Transfer‑earnings and economic‑rent

• Transfer‑earnings: The minimum wage a worker would accept to stay in the current occupation (often approximated by the next‑best alternative).
• Economic‑rent: Any earnings above transfer‑earnings; arises from scarcity of skills, occupational licensing, or monopsony power.

4. Government intervention

4.1 Policy instruments and their primary labour‑market effects

Policy instrument	Primary effect on the labour market	Side(s) of the market affected	Typical outcome (short‑run)	Possible unintended consequences
Minimum wage	Sets a statutory floor for low‑skill wages.	Supply ↑ (more workers willing to work) – Demand ↓ (higher cost for firms)	Wage rises; employment effect depends on elasticities.	Informal employment or reduced hours for low‑skill workers.
Earned Income Tax Credit (EITC) / tax rebates	Increases the after‑tax wage for low‑income workers.	Supply ↑ (higher net remuneration) – little direct effect on demand	Higher labour‑force participation.	“Welfare trap” if benefits fall sharply as earnings rise.
Subsidised childcare	Reduces the non‑wage cost of working for parents.	Supply ↑, especially among women of child‑bearing age.	Higher labour‑force participation of mothers.	If supply rises sharply, wages in affected occupations may be pressured downwards.
Training grants & apprenticeship schemes	Improves skill acquisition and future wage prospects.	Supply ↑ for skilled occupations; long‑run shift of labour‑demand rightward (more productive workers).	Higher employment in skill‑intensive sectors.	Risk of “skill mismatch” if training does not match employer needs.
Immigration controls	Alters the size of the resident labour pool.	Supply ↓ in sectors reliant on migrant labour (e.g., agriculture, hospitality).	Upward pressure on wages in affected sectors.	Potential labour shortages and reduced output.
Health & safety regulations / maximum working hours	Improves working conditions but may raise compliance costs.	Supply ↑ (jobs become more attractive) – Demand ↓ (higher production cost).	Higher wages for safe jobs; possible reduction in overtime earnings.	Firms may substitute labour with capital.

4.2 Evaluating government policies (exam checklist)

1. Identify which side of the market the policy directly affects (supply, demand or both).
2. State the direction of the curve shift (right/left) and the short‑run impact on equilibrium wage and employment.
3. Discuss the price‑elasticities of labour supply and demand in the relevant occupation/industry.
4. Consider second‑order effects (e.g., informal sector growth, skill mismatches, changes in productivity).
5. Weigh the distributional consequences – who gains (workers, firms, government) and who loses.

5. Analytical checklist for a specific firm or occupation

1. What is the prevailing real wage (including tax and social‑security effects)?
2. Are there significant wage differentials within the sector?
3. How attractive are the non‑wage attributes (working conditions, location, career prospects)?
4. What demographic groups dominate the labour pool and what constraints do they face?
5. Is the labour market competitive, monopsonistic, or heavily unionised?
6. Which recent or upcoming government policies could shift the relevant curves?
7. Estimate the likely net effect on the firm’s labour‑costs and on the quantity of labour it will employ.

6. Suggested diagrams (for exam answers)

• Labour‑demand curve derived from the downward‑sloping portion of the MRP (Section 1.4).
• Competitive equilibrium – intersection of MD and MS (Section 3.1).
• Monopsony model – labour‑supply, marginal‑cost‑of‑labour (MCL) and MRP curves (Section 3.2.1).
• Union wage‑setting model – wage‑setting curve intersecting MD (Section 3.2.2).
• Shift of the supply curve due to a non‑wage factor (e.g., subsidised childcare) combined with a movement along the demand curve caused by a labour tax (Section 4.1).
• Efficiency‑wage diagram – wage above the competitive level with a corresponding lower employment point.

7. Summary

The quantity of labour demanded by firms is a derived demand that hinges on product‑market demand, technology, input prices, expectations and the number of firms. The MRP of labour provides the theoretical basis for the downward‑sloping labour‑demand curve.

Labour supply is driven by the real wage but is highly sensitive to non‑wage factors such as working conditions, location, training opportunities, demographics and institutional settings. Movements along the supply curve reflect changes in the real wage; shifts reflect changes in any of the non‑wage determinants.

In a perfectly competitive market, equilibrium wage and employment are found where the two curves intersect. Imperfect markets – monopsony, trade‑union bargaining, efficiency‑wage arrangements – generate wages that deviate from the competitive level and usually result in lower employment.

Government intervention can shift either curve, alter the equilibrium, and produce distributional effects. A thorough analysis therefore requires:

• Identifying the affected side of the market,
• Predicting the direction of the shift,
• Considering elasticities and second‑order effects,
• Evaluating who benefits and who loses.