2. Consumer Theory
Along with what to buy, another key decision that we make every day as economic agents is how much to work and how much to relax. The decision about supplying labor can be analyzed with the same tools used to analyze the market for pizza or movies, and we call this the analysis of the labor market. This lecture provides an overview of the economics of the labor market.
The labour supply is the total hours (adjusted for intensity of effort) that workers wish to work at a given real wage rate. It is frequently represented graphically by a labour supply curve, which shows hypothetical wage rates plotted vertically and the amount of labour that an individual or group of individuals is willing to supply at that wage rate plotted horizontally.
This Backward bending supply curve of labour supply curve shows how the change in real wage rates affects the number of hours worked by employees.
Labour supply curves derived from the 'labour-leisure' trade-off. More hours worked earn higher incomes, but necessitate a cut in the amount of leisure that workers enjoy. Consequently, there are two effects on the amount of labour desired to be supplied due to a change in the real wage rate. As, for example, the real wage rate rises the opportunity cost of leisure increases. This tends to make workers supply more labour (the "substitution effect"). However, also as the real wage rate rises, workers earn a higher income for a given number of hours. If leisure is a normal good—the demand for it increases as income increases—this increase in income tends to make workers supply less labour so they can "spend" the higher income on leisure (the "income effect"). If the substitution effect is stronger than the income effect then the labour supply slopes upward. If, beyond a certain wage rate, the income effect is stronger than the substitution effect, then the labour supply curve bends backward.
From a Marxist view, a labour supply is a core requirement in a capitalist society. To avoid labour shortage and ensure a labour supply, a large portion of the population must not possess sources of self-provisioning, which would let them be independent—and they must instead, to survive, be compelled to sell their labour for a subsistence wage. In the pre-industrial economies wage labour was generally undertaken only by those with little or no land of their own.
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