📈 Demand for labour increases
Draw D shifting to the right to D1. The new equilibrium is at a higher wage, W2, and a larger quantity of labour, Q2. This could be caused by higher demand for the product or higher productivity.
Workers » Wage Determination: Demand and Supply of Labour
What you'll learn this session
Study time: 30 minutes
Cambridge spec: 3.3.2
- What influences the demand for labour and the supply of labour
- How to draw the labour market diagram and find the equilibrium wage
- How changes in demand or supply change the equilibrium wage
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Unlock This CourseThe labour market
You already know that a market is where buyers and sellers come together, and that the labour market is the market for workers. Here the buyers are firms (and other employers), who want to hire workers. The sellers are the workers, who offer their time and skills. The price in this market is the wage.
Just as in a product market, demand and supply decide the price. So the wage for a job is set by the interaction of the demand for labour and the supply of labour.
Key terms:
- Demand for labour: the number of workers that firms are willing and able to hire at each wage.
- Supply of labour: the number of people willing and able to work in a job or industry at each wage.
- Equilibrium wage: the wage at which the demand for labour equals the supply of labour.
What influences the demand for labour?
Firms do not hire workers for fun. They hire them to produce goods and services to sell. So the demand for labour depends on what the firm can do with the workers. There are three main influences.
🛍 Demand for the product
If more people want to buy what the firm sells, the firm needs more workers to make it. If sales fall, the firm hires fewer workers. For example, if more tourists visit the made-up city of Sarvik, hotels hire more cleaners and receptionists.
💪 Productivity of workers
Productivity is how much each worker produces. If workers become more productive, for example after training, each one is worth more to the firm, so the firm wants to hire more of them.
⚙ Cost of capital
Firms can use machines (capital) instead of workers. If machines become cheaper, firms may buy more machines and hire fewer workers. If machines become more expensive, firms may use more workers instead.
A change in the wage itself also changes the quantity of labour demanded. The higher the wage, the fewer workers firms want to hire, because each one costs more. This is why the demand curve for labour slopes downwards.
What influences the supply of labour?
The supply of labour to a particular job depends on how many people are willing and able to do it. The main influences are:
- The wage: the higher the wage for a job, the more people want to do it. This is why the supply curve slopes upwards.
- Non-wage factors: better working conditions, holidays, hours or job security make a job more attractive, so more people will supply their labour to it. Poor non-wage factors have the opposite effect.
- Skills and qualifications needed: the more skills and qualifications a job needs, the fewer people can do it, so the supply is smaller.
- Training time: a job that takes many years of training, such as a surgeon, has a smaller supply of labour than a job that can be learned in a few weeks.
- Population: a bigger population usually means more people of working age, so more workers are available.
Remember from the last lesson that people weigh up wage and non-wage factors when they choose an occupation. That is exactly why these factors affect the supply of labour.
The labour market diagram
Draw the diagram in the same way as a product market diagram, but with different labels. This is how to do it in an exam:
- Draw the vertical axis and label it Wage. Draw the horizontal axis and label it Quantity of labour.
- Draw a downward-sloping line and label it D (demand for labour).
- Draw an upward-sloping line and label it S (supply of labour).
- Mark where they cross. Read across to the vertical axis for the equilibrium wage, W1, and down to the horizontal axis for the equilibrium quantity of labour, Q1.
At a wage above W1, more people want to work than firms want to hire, so there is a surplus of labour and the wage tends to fall. At a wage below W1, firms want more workers than are willing to work, so there is a shortage of labour and the wage tends to rise.
Changes in demand and supply
When an influence other than the wage changes, a whole curve shifts and the equilibrium wage moves.
📉 Demand for labour decreases
Draw D shifting to the left to D1. The wage falls to W2 and the quantity of labour falls to Q2. This could be caused by cheaper machines or falling sales.
👥 Supply of labour increases
Draw S shifting to the right to S1. The wage falls to W2 and the quantity of labour rises to Q2. This could be caused by a bigger population or a shorter training time.
🎓 Supply of labour decreases
Draw S shifting to the left to S1. The wage rises to W2 and the quantity of labour falls to Q2. This could be caused by a job needing more qualifications.
Worked example
In the made-up city of Dornia, the market for bus drivers has this schedule:
| Wage ($ per hour) | Drivers demanded | Drivers supplied |
|---|---|---|
| 6 | 500 | 100 |
| 8 | 400 | 200 |
| 10 | 300 | 300 |
| 12 | 200 | 400 |
| 14 | 100 | 500 |
The equilibrium wage is $10 an hour, because demand and supply are both 300 drivers. Now the city opens a new airport and more people use buses, so demand rises by 200 drivers at every wage. The new demand is 700, 600, 500, 400 and 300. Demand and supply are now equal at $12 an hour, where both are 400 drivers. The wage rises from $10 to $12 and the number of drivers rises from 300 to 400.
Common mistakes
Saying that a higher wage shifts the demand curve: a change in the wage is a movement along the curve, and only the other influences shift it. Mixing up the axes: wage goes on the vertical axis and quantity of labour on the horizontal axis. Shifting the wrong curve: a change in the number of people able to do the job moves supply, while a change in what firms sell or in machine costs moves demand. Forgetting to label W1, W2, Q1 and Q2 on the diagram.
Exam-style question
Read this made-up context. In the country of Hesmark, many people work as electricians. The government announces a big programme to build new homes. At the same time, a new law means that a person must now complete a longer course of training before they can work as an electrician.
(a) Define the demand for labour. [2 marks]
(b) Explain two influences on the supply of labour to a job. [4 marks]
(c) Analyse how the two changes in the context may affect the wage of electricians in Hesmark. You may use a labour market diagram. [6 marks]
Model answer
(a) The demand for labour is the number of workers (1) that firms are willing and able to hire at each wage (1).
(b) One influence is training time (1). The longer a job takes to train for, the fewer people can do it, so the supply of labour is smaller (1). Another influence is the wage (1). A higher wage attracts more people to the job, so the quantity of labour supplied rises (1).
(c) The new homes will increase the demand for electricians, because firms building houses will need more of them (1). On a diagram, D shifts right to D1 (1), which raises the wage from W1 to W2 (1). The longer training reduces the supply of labour, as fewer people will qualify (1). S shifts left to S1 (1). This also raises the wage, so the wage of electricians is likely to rise by more than if only one change had happened (1).
Exam tip
In an "Analyse" question, explain each change as a chain: what happens, which curve moves, and what that does to the wage. Label the diagram with D, S, D1, S1, W1, W2, Q1 and Q2.