Labor economics

What is Labor Economics?

Labor economics seeks to understand the functioning and dynamics of the market for labor. Labor markets function through the interaction of workers and employers. Labor economics looks at the suppliers of labor services (workers), the demanders of labor services (employers), and attempts to understand the resulting pattern of wages, employment, and income.

Compensation and measurement

Wage is a basic compensation for paid labor, and the compensation for labor per period of time is referred to as the wage rate. Other frequently used terms include:

Wage = payment per unit of time (typically an hour)

Earnings = payment accrued over a period (typically a week, a month, or a year)

Total compensation = earnings + other benefits for labor

Income = total compensation + unearned income

Economic rent = total compensation - opportunity cost

Economists measure labor in terms of hours worked, total wages, or efficiency.

Labor Demand

Labor demand is a derived demand; that is, hiring labor does not desire for its own sake but rather because it aids in producing output, which contributes to an employer's revenue and hence profits. The demand for an additional amount of  depends on the Marginal Revenue Product (MRP) and the marginal cost (MC) of the worker. The MRP is calculated by multiplying the price of the end product or service by the Marginal Physical Product of the worker. If the MRP is greater than a firm's Marginal Cost, then the firm will employ the worker since doing so will increase profit. The firm only employs however up to the point where MRP=MC, and not beyond, in economic theory.

Wage differences exist, particularly in mixed and fully/partly flexible  markets. For example, the wages of a doctor and a port cleaner, both employed by the NHS, differ greatly. There are various factors concerning this phenomenon. This includes the MRP (see above) of the worker. A doctor's MRP is far greater than that of the port cleaner. In addition, the barriers to becoming a doctor are far greater than that of becoming a port cleaner. To become a doctor takes a lot of education and training which is costly, and only those who excel in academia can succeed in becoming doctors. The port cleaner, however requires relatively less training. The supply of doctors is therefore significantly less elastic than that of port cleaners. Demand is also inelastic as there is a high demand for doctors and medical care is a necessity, so the NHS will pay higher wage rates to attract the profession.

The MRP of the worker is affected by other inputs to production with which the worker can work (e.g. machinery), often aggregated under the term "capital". It is typical in economic models for greater availability of capital for a firm to increase the MRP of the worker, all else equal. The education and training noted in the last paragraph are counted as "human capital". Since the amount of physical capital affects MRP, and since financial capital flows can affect the amount of physical capital available, MRP and thus wages can be affected by financial capital flows within and between countries, and the degree of capital mobility within and between countries.

There are two sides to labor economics. Labor economics can generally be seen as the application of microeconomic or macroeconomic techniques in the labor market. Microeconomics techniques study the role of individuals and individual firms in the labor market. Macroeconomic techniques look at the interrelations between the labor market, the goods market, the money market, and the foreign trade market. It looks at how these interactions influence macro variables such as employment levels, participation rates, aggregate income and Gross Domestic Product.