Monopsony employers and minimum wages

Monopsony employers and minimum wages


– [Instructor] We’ve already
talked about the notion of a monopsony employer in other videos, but now we’re going to
review it a little bit. And we’re going to introduce a twist, and the twist is what happens when they have to deal
with a minimum wage? And as we’ll see, it’s
kind of counterintuitive. So first of all, just as a review, a monopsony is a situation
where you have one buyer and you have many sellers of something. And when we’re talking
about a monopsony employer, the buyer is the buyer of labor. We’re talking about the buyer
in the labor factor markets, and the seller are the workers, the people who would sell
their labor for a wage. And we have already studied monopsony employers situations
before, but I will redo it. It never hurts to get the practice. In the vertical axis, you have the wage, which is really the price of this factor of labor that we’re studying right now. And in the horizontal axis, you have the quantity of the
factor that we care about, and this is quantity of labor. Now, we have seen this
show many times before. You’re going to have or you typically have a downward-sloping marginal
revenue product curve. And that describes a situation where every incremental
unit of labor you bring on, the marginal revenue, the
incremental revenue you get, goes lower and lower and lower because of, arguably, diminishing returns in some way. So this is marginal
revenue product of labor. You could also have marginal
revenue product of capital or of land, other factors. And then we could think
about the supply of labor. Or actually, really what
we’re trying to get at is what is the marginal factor cost curve? And if this employer were not a monopsony employer,
if they were just operating in a perfectly competitive labor market, the marginal factor cost curve would just be the market wage. So it might look something like that. But we are dealing with
a monopsony employer, and so they don’t just take
the market wage, they have, you could view it as a
supply curve for labor that’s specific to them. Because remember, they’re
the only show in town. They are the big employer
maybe in this small town. And so you have this supply curve. This, this is supply of labor. But this is not the
marginal factor cost curve, and we’ve explained this before. But that’s because as you bring on higher and higher quantities of labor, you need to pay more to
that incremental person. But what typically happens
is if you need to pay one person more, you need to
pay everyone the same wage. So as you bring on that incremental labor, not only you have to pay more
for that incremental unit, but you have to raise
the wage for everyone. So the marginal factor
cost goes up twice as fast as the supply of labor curve. So the marginal factor
cost curve, it would look, might look something like this. And then what’s rational
is a firm would keep bringing on that factors,
in this case, labor. It would keep hiring folks as long as the incremental
revenue that it gets from hiring that next unit is higher than the marginal or the incremental cost. And so they’ll keep bringing people on as long as the MRP is higher than the MFC, and so we would get to
that point right there. And so it’d be rational for this firm to hire this quantity of labor. Let’s call that Q sub one. And then what wage are they paying? Pause this video, and think about that ’cause this is always a little bit tricky. Well, you might be tempted
to draw a line here. But remember, this doesn’t
describe the actual wage. The wage at that quantity is described by the supply of labor. So this would be the wage
that the firm would pay. So now let’s introduce our twist. Let’s think about what happens if a minimum wage is
employed in this region, that, for whatever reason,
the city council says, hey, that employer needs
to be paying more money. And let’s say they
institute a minimum wage at, I will do this in a bold color. Let’s say they institute a
minimum wage right over here. Let’s call this wage sub m. Pause the video, and think
about what would then happen. What would the marginal
factor cost curve look like? And then what would be
the rational quantity for the firm to hire? All right, so now that
the town has instituted a minimum wage and it’s
higher than the rational wage that the firm would’ve
otherwise paid for labor, what it does is it, at least at a certain
range of quantities, it, of quantities of labor being employed, it essentially makes this
monopsony employer have to think a little bit like an employer
in a competitive labor market where you just have to accept a wage. Now, this wage isn’t
being set by some market. It’s being set by a government. So as long as this wage is higher than the supply of labor, well, then this is going to be, or higher than our old supply curve, well, this is going to be,
from the firm’s point of view, the new supply curve. So it’s going to look something like this. But then when the supply curve, when the wages that the
supply curve describes go higher than that minimum wage, well, then it will track that. So this is our new supply
curve right over here. So new, new supply curve, and we’re
talking about supply of labor, and it’s this whole red thing. And what would be our new
marginal factor cost curve? Well, we said that it has twice the slope, but when the slope is just flat here, I’m gonna do this in a new color. So the marginal factor cost curve, it’s going to track this
horizontal line right over here. And then all of a sudden, when the supply curve starts to go up, well, then it’s going to jump back to the old marginal factor cost curve. So it’s going to look something like this. So MFC, I’ll call it two, that’s in blue. So it tracks the supply curve
here when it’s horizontal. And it is really just analogous to when we just have to accept
a wage, and then it jumps. We have a bit of a discontinuity,
and then you get up there. But what’s rational, as always,
is a firm to keep hiring as long as the marginal
revenue product is higher than the marginal factor cost. So it’s going to keep hiring. As long as this yellow line
is above the blue line, it would keep hiring, keep hiring, all the way until this
point right over here. So notice what just happened. It is now rational for the firm to hire more people, and that is counterintuitive. In everyday thought, if I thought I was running
some type of a business, if I was running a burger joint, and all of a sudden if there
was a higher minimum wage, then it feels like, hey, I
might not have enough money to hire people, I might lower
the number of people I hired. But we just showed, at least with some, with a very simplified economics
model, that theoretically when you’re dealing with
a monopsony employer, it actually might get
them to hire more people. So an interesting question is why did this counterintuitive
thing happen? And one hand-wavy argument, but I encourage you to ponder it, is to realize that, in the old world, every time they brought
on an incremental person, they had to raise the salary of everyone, and that’s what made
the marginal factor cost go up so quickly. But now since you have
this whole flat part of your supply curve, because regardless of
how many people you hire in this range right over here, you’re paying the same amount, that incremental person does not increase the
wage for everyone else. So that is what made it
rational for the firm to go and keep hiring. Now, the community, the government, the city council would
have to be very careful about what this minimum wage
is because it’s very possible that they could overshoot
and actually end up in a situation where the firm hires less. So, for example, if they
made this the minimum wage right over here, let’s
call that W two or W three, well, now all of a sudden, you would have a marginal
factor cost curve that is going like this for at least a good bit. We can think about it a little bit later, as what happens is you go
further and further to the right. But then it would only be rational for the firm to hire that much, and so then you would have
a decrease in employment. But if we go back to
the original situation, another thing that you
might be thinking about, hey, this seems too good to be true. It’s now rational for the
firm to hire more folks, and those folks are getting more income. Surely someone must be losing. And it is the case that the firm is now going to lose more of, I guess you could say the surplus that it was having in the old world, and more of that is now
being given to the workers.

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