The Marginal Product of Labor

In this video on the marginal product of labor, we discuss some commons questions such as: How are wages determined? Why do most Americans earn so much by global standards? What exactly is meant by ‘human capital’? Do labor unions help workers, and if so, by how much? How does discrimination affect labor markets? How is the demand for labor different than the demand for a good? We’ll discuss how to derive the demand for labor based on the marginal product of labor, and use real-world examples — such as the demand for janitors in a fast food restaurant — to illustrate this calculation. We’ll also cover an individual’s labor supply curve vs. market supply of labor.

Microeconomics Course:http://mruniversity.com/courses/principles-economics-microeconomic

Ask a question about the video: http://mruniversity.com/courses/principles-economics-microeconomics/labor-economics-marginal-product-labor#QandA

Next video: http://mruniversity.com/courses/principles-economics-microeconomics/human-capital-wages-education-globalization

♪ [music] ♪

- [Prof. Alex Tabarrok] In this set
of lectures on labor markets,

we'll be looking at questions,

such as: How are wages determined?

Why do Americans
earn so much by global standards?

What's human capital and how
does it help us to increase wages?

Do labor unions help workers?

And if so, by how much?

And how does discrimination
affect labor markets?

We're going to begin
in this part of the lecture

with the determination of wages.

In this set of lectures
on labor markets,

we'll be looking at questions such as

How are wages determined?

Why do most Americans
earn so much by global standards?

What's human capital?

How does it help us
in increased wages?

Do labor unions help workers,
and if so, by how much?

And how does discrimination
affect labor markets?

We're going to begin
in this part of the lecture

with the determination of wages.

What makes the demand for labor
different than the demand for apples

is that the demand
for labor is a derived demand.

Firms hire workers because
the workers increase their revenues.

The key idea
behind the demand for labor

is the marginal product of labor,

the increase in a firm's revenues

created by hiring
an additional laborer.

And we're going to see
several important things

about this marginal
product of labor.

First, it declines
as more labor is added.

And this is because the first laborer
goes to the most important task,

the second laborer goes
to the second most important task

and so forth.

Moreover, firms
will hire workers, laborers,

as long as the wage is less
than the marginal product of labor.

Let's take a look
at this in a table.

This table shows how
a restaurant like McDonald’s

might think about hiring janitors.

The first janitor is assigned
to the most important task --

cleaning the restrooms once a day.

That task adds $35
an hour to the firm’s revenues.

Customers like restaurants
with clean restrooms.

The second janitor empties the trash,

the third janitor hired will also
be assigned to cleaning restrooms,

now done twice a day --

and that use increases revenues
by less -- by $24 an hour.

The demand curve for labor

is derived from
the marginal product of labor.

Notice that as the wage goes down,

the firm will want to hire
more and more janitors

and as the firm hires
more and more janitors,

the marginal product of labor falls.

So let's take a closer look
at this derivation.

Here's the marginal product
of labor schedule

and here is the demand for labor
derived from that schedule.

Notice that if the wage
were greater than $35 an hour

the firm would demand no janitors.

That's because
the very first janitor

adds $35 an hour
to the firm's revenues.

If the wage is higher than that,
that janitor is not worth hiring.

As the wage falls, however,

more and more janitors
become worthwhile to hire.

If the market wage were $10,
7 janitors would be hired.

If the market wage were $30,
only 1 janitor would be hired.

Now this is the demand for janitors
from a single firm.

Now consider summing up
the quantity of janitors

demanded at each wage
for all the firms in the market.

That's how we get
to the market demand for janitors.

So let's go to the market demand.

So here's the market for janitors
in the United States.

We have a demand curve derived
from the marginal product of labor

and a supply curve.

The supply curve says
that as the wage increases

the quantity of janitors supplied
will also increase.

That's intuitive
but I want to say a little bit more

about the supply curve in a moment

because there's
one possible complication

which we should discuss.

For now, however,
let's focus on the main point,

which is that the wage
is determined as usual

by the point
where the quantity demanded

is equal to the quantity supplied --

the intersection of the demand
and the supply curve.

In the United States,

the wage for janitors
is about $10 an hour

and the quantity supplied
is about 168 million hours per week.

Overall, there are about 4.2 million
janitors in the United States.

So the key here is really that we can
use our tools of demand and supply

to understand the market for labor.

So we can predict what will happen
with an increased demand for labor

or a reduced supply.

Other factors which might influence
the demand and supply of labor --

we now know
how to analyze this market.

Let's add one qualification
to the supply of labor.

We need to make a distinction

between an individual’s
supply curve for labor

and the market
supply curve for labor.

So let's suppose we have a janitor --
let's call him Joe --

and let's imagine that his wage
is currently $16 an hour

and he's working 40 hours a week.

If the wage were
to increase to $20 an hour,

Joe decides he may work more,
50 hours per week,

in order to take advantage
of that higher wage.

But now suppose that the wage
increases even more to $28 an hour.

Well, will Joe choose to work more
at $28 an hour than he did at $20?

Not necessarily.

After all, there's only
so many hours in the week.

Anyway, Joe has other things
to do with his time.

Now that his wage is higher,

Joe might want
to take his family on a vacation.

His income
is pretty high as well now --

$28 an hour, 40 hours a week,

Joe may decide he in fact
would like to work a little bit less.

He in fact would like
to buy more leisure

with the income
which he is earning from his job.

So an individual’s labor supply curve

could possibly have
a backward bending component.

There's nothing irrational
or peculiar about that.

Although it's possible for an individual

to have a backward bending
labor supply component,

it's less likely
for the market as a whole,

because even as the wage
for janitors increases

and Joe works a little bit less,

there are lots of other people --
Mary, and Jose and Rita --

who are currently employed,
say waiting tables or as sales staff,

who would be willing
to work in janitorial services

if the wage were higher.

So consider a wage of $20 an hour --

the market supply has 320 million
hours of janitorial services.

As the wage goes up to $28,

well Joe works a little bit less,

and maybe some
of the other people in the industry

work a little bit less --

people who are
already in the industry --

but more people enter the market
for janitorial services

when the wage is $28
than when it was $20.

So as the wage increases,

the quantity supplied
of janitorial services increases

for two reasons.

The people who are
already janitors may work more,

but even more importantly,

as the wage for janitors increases

more people
enter the janitorial industry.

So what this means
is that our labor supply curve

will typically have our usual shape --

an upward sloped
labor supply curve.

Even when some individuals
might have a backward slope

over some portion of the curve,

the market slope
is going to have our typical shape.

So why do janitors
in the United States

earn more than janitors in India?

After all, they're doing
pretty much the same thing --

sweeping floors and so forth.

It certainly isn't the case
that janitors in the United States

are sweeping more floors per hour
or working so many more hours.

If you answered demand and supply,
give yourselves half points.

Let's go a little bit deeper.

The demand for janitors
is higher in the United States

because the United States
is a more productive economy

than the Indian economy.

There's more and better
capital to work with,

the office workers
are more productive,

and the American office
produces a more valuable product.

The result
is that it's more valuable

to keep a U.S. office building clean --

that's one of the reasons
why American janitors earn more.

The demand
for their services is higher.

This is a useful reminder --

you may have
a number of valuable skills.

Perhaps you're able
to program a computer,

or write a report,
or motivate sales staff,

and so forth.

But your skills only have value
within a given context.

If you were transplanted
to a different economy,

your skills might be worth less --

maybe because your skills
would be less useful,

but also because other people
might not have the money

to pay for your skills.

It's better to be a barber
in a rich country

than in a poor country,

even when the same number
of people need a haircut.

Okay.

So that's one reason why janitors
in the United States earn more.

The demand
for their services is higher

because the United States
is a more productive economy.

Wages, of course,
are about demand and about supply.

So here's the other half --

India has more workers
than in the United States,

and in particular India
has more low-skilled workers

who eagerly compete
for the job of janitor.

A janitor could be
a quite high paying job in India,

a well-respected job in India.

So Indian janitors earn less

because U.S. firms
are more productive,

the demand for labor is higher

and also because the supply
of low-skilled workers

is greater in India.

Here's a graph
summarizing what we just said.

Here's the demand and supply
of janitors in the Unites States

with the wage of $10 an hour.

And here's the demand
and supply in India.

The demand is lower,
the supply is higher

so the wage is lower.

Okay.

Next time we'll be
looking at some of the factors

which can increase wages,

particularly human capital,

and then we'll turn
to discrimination and other topics.

- [Narrator]
If you want to test yourself,

click "Practice questions."

Or, if you're ready to move on,
just click, "Next Video."

♪ [music] ♪