Chapter 12 - Labour

Chapter 12 Labour
Answers to Questions for Review
1. In the VMPL curve, the firm is a price taker. In the MRPL curve, the firm is a price maker.

2. It would be reduced because monoplists restrict output to raise price and therefore need less
workers.

3. Other firms in the area could bid away workers.

4. Employers who discriminate will be driven out of the market by those who do not
discriminate.

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Answers to Chapter 12 Problems

1. Wages = R40/hr which equals VMP at L = 30 hours. The VMP column numbers are 160,
120, 80, 40, and 0.
Wage (R/hr)
160
VMP

40

w = 40
MP

30
Labour (person-hrs/day)

40

2. The new budget constraint shares M = R0 at h = 24 hours, but has twice the slope due to the
wage being twice as high. The M column number are 2 880, 2 160, 1 440, 720, and 0.

Income
(R/day)
2 880
2 160

M'

1 440
M
720

12
Leisure (hrs/day)

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Chapter 12 - Labour

3. The monopsonist hires L = 20 units of labour, where VMP = MFC = R80, and pays the wage
w = AFC = R40/hr.

Wage (R/hr)
160
VMP
MFC
80
AFC
40

20

30

Labour (person-hrs/day)

4. The value of the marginal product of labour is price times the marginal product of labour.
VMP = P(MPL) = 50(220 10L) = 11 000 500L. A perfectly competitive firm hires labour
until the point where w = VMP, which in this case occurs at 1 000 = 11 000 500L or 10 000
= 500L or L = 20 units of labour.

Wage (R/hr)
6 000

VMP

1 000
0

20
Labour (person-hrs/day)

5. ABC = budget constraint for current job;

E1 = current job;

CD = budget constraint for new job

E2 = new job

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Chapter 12 - Labour

Income 480
(R/day)

A
D

I1

360

aE1

E2
B

I2

80

C
12

16

24

Leisure

Since the new budget constraint also contains E1 (the current job), and since Mandla's
indifference curve was tangent at E1 with a slope of 25, it follows that he will accept the new
job; at E1, he values extra leisure at R250/hr and the new job lets him get it for only R15/hr.

6. Program 1 is more likely to reduce hours worked, assuming leisure is a normal good, because
it provides more income while leaving the price of leisure unchanged. Program 2, by contrast,
makes leisure more expensive than before.

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Chapter 12 - Labour

7. a) Equilibrium occurs where MFC = demand:

40L = 120 - 20L, which solves for
L* = 2
W = 20L* = R40/hr

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Chapter 12 - Labour

7. b) With a minimum wage of R70 in effect: 70 = 120 - 20L, which solves for L** = 5/2; W =
R70

7. c) 120 - 20L = AFC = 20L, Lc = 3,

With min wage: L = 5/2;

Wc = R60

W = R70

8. The monopolist's demand curve for labour is his marginal revenue product curve, the product
of marginal revenue and the marginal product of labour:
MRP = (1 000 - 20Q)(40) = (1 000 - 80L)(40) = 40 000 3 200L.
Secury Locks marginal factor cost curve is given by MFC = 4 000 + 400L. Equating MRP
and MFC, we have 40 000 3 200L = 4 000 + 400L, which solves for L = 10. The wage is
given by W = 4 000 + 200L = R8 000.

9. a) MFC = 30 + 20L = Demand = W = 350 - 60L, which solves for L = 4 and W = 70 as

shown from the supply supply curve for L = 4.

9. b) At W = 170, we get L = (350 - 170)/60 = 3.

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Chapter 12 - Labour

10. Since MR < P for a monopolist, we know that MR < R50, which means that MRPL =
(MR)(MPL) is less than (50)(2) = R100/hr. And since w = 100, this means that he should hire
less labour.

11. a) MRPL = (MR)(MPL). So MRPL = 8 5 = 40 and MFC = 10 + 2L.

Since MFC = MRPL, L = 15 and W = 10 + L = 25. Output = 15(5) = 75.

11. b) MRPL = (102 - 3.92Q)(5) = 510 - 19.6Q. Since the production function is Q = 5L (because
of constant marginal cost), when we substitute we get, MRPL = 510 - 98L.
MFC = MRPL implies 510 - 98L = 10 + 2L which solves for
L = 5 and W = 10 + L = 15 and Q = 5L = 25 and P = 102 - 1.96Q = 53.

11. c) From part (b) MRPL = 510 - 98L.

At L = 5, MRPL = 20
At L = 6, MRPL = -78.

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Chapter 12 - Labour

Since MRPL becomes negative, no matter what the wage is an extra worker will decrease
profits. So BHP Billiton will not increase its labour force.

12. Comparing VMP with marginal willingness to pay for additional vacation time, we see that
the optimal vacation lengths for the two types of worker are
V*young = 2 weeks; V*old = 4 weeks.
Compared to the current arrangement (in which all workers get 5 weeks vacation), older
workers would be willing to cut their vacation to 4 weeks for only 150/yr more in pay. Since
the older worker's VMP is 175/wk the firm can meet this requirement with 25/yr left to spare.
Younger workers would be willing to switch to 2 weeks vacation for an increase in pay of
only 275/yr, and since the VMP of each younger worker is 150/wk, the 3 week/yr cut in
vacation time will generate 450/yr additional revenue, or 175/yr more than necessary to meet
the required pay hike. So the extra profit will be 25/yr for each older worker and 175/yr for
each younger worker.

13. a) E(VMP) given that test = 90 and applicant is blue: (1/3) (90) + (2/3) (60) = 70.

13. b) E(VMP) test = 90 and applicant is green: (1/3) (90) + (2/3) (120) = 110.

13. c) No. Statistical discrimination pulls members within each group toward the respective
group averages. It says nothing about why the group averages differ.

14. a) The wage schedule described in the diagram below pays the worker less than VMP in the
early years, more than VMP in the later years. A shirking employee will be reluctant to work
under such a schedule, because of the risk of getting caught and fired for shirking before

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Chapter 12 - Labour

having a chance to cash in on premium wages. The non-shirker, by contrast, does not have
this reason to worry about being fired. Of course, if the probability of being caught were zero,
the threat of losing future premium wages would lose all force.

14. b) Workers run not only the risk of being fired for shirking but also the risk of being fired
because the firm doesn't want to pay the promised wage premiums. Any firm with a
reputation for not making good on such promises would have a very difficult time finding
workers to agree to work under a future-oriented pay schedule.

15. a) The equilibrium condition for sector 1 is that its expected wage equal the wage in sector 2:
(5/N1)100 = 10, so N1 = 50 and N2 = 80 - 50 = 30.

15. b) GNP = 5(100) + 30(10) = 800, which is the same as if sector 1 didn't exist!
15. c) If we tax in sector 1 at the rate 0.5, the new equilibrium condition is that the expected value
of the after-tax wage in sector 1 be equal to the wage in sector 2: (5/N1) (0.5) 100 = 10, so
= 25 and

= 80 - 25 = 55. GNP = 5(100) + 55(10) = 1 050.

16.

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Chapter 12 - Labour

VMPL = P.MPL =

17.

Additional Problems
1. Refer to problem 9 in the text to answer problems one and two. Suppose the workers in this
problem are members of a union that collectively bargains for a higher wage. What is the
highest wage the employer would be willing to pay without cutting back employment ?

2. Suppose the employer and the workers compromise on a wage of R90 per hour. How many
workers would the employer hire at that wage?

3. How will the collective bargaining agreement in Problem 1 above affect the profits of the
firm? What will the monopsonist choose to do in the long run if his pre-contract monopsony
profits equal 120 per hour?

4. Harry and Larry are looking for summer employment as lifeguards. They can choose to work
either on a beach with shark-infested water for R4 000/week or on a beach surrounded by a
coral reef which keeps the water free of sharks for R3 000/week. The R1 000 difference in
wages for the two beaches represents the risk premium of working in shark territory, and
each lifeguard's utility function results in utility levels equal to the amounts shown in the
chart below

Harry

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Chapter 12 - Labour

No Sharks
Larry

Sharks

4.

No Sharks

Sharks

H = 6 000

H = 7 000

L = 6 000

L = 3 000

H = 3 000

H = 4 000

L = 7 000

L = 4 000

a) If Harry and Larry choose independently, which beach will they choose to work at?

4. b) If Harry and Larry negotiate and if they can costlessly reach a binding agreement with one
another, how might their decision differ from the decision they made in part (a)?

5. Many economists argue that tax cuts will give individuals an incentive to work more; one
might argue that the tax cuts will cause individuals to work less. How would the backwardbending supply curve for labour explain both of these arguments?

Answers to Additional Problems

1. The MRP of the 4th worker is R110, so the employer would pay up to R110 for 4 workers.

2. With W = R90, L = MRP = 350 60L, L* = (350 - 90)/60 = 260/60 = 4.7. The firm would
hire 4 full- time workers and 1 half-time worker at the contract wage.

3. The total wage bill increases from R280 to R405, which is partly offset by the extra output of
the last half-unit of labour, which increases revenue by 80(0.5) = R40 per hour. This wage
increase eliminates the monopsony profit, but the firm remains in business, making a normal
profit.

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Chapter 12 - Labour

4. a) If Harry and Larry choose independently, they will each choose to work on the beach with
sharks.

4. b) If Harry and Larry negotiate, they will both work on a beach without sharks, in which case
they will both be better off than if they had made their decisions independently.

5. Permanent tax cuts have the effect of increasing an individual's income, so that a tax cut on
the positively sloped portion of the labour supply curve will increase the amount of labour
supplied, while a tax cut on the backward-bending portion of the labour supply curve will
cause people to increase their leisure time and decrease the amount of labour supplied.

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