Factor that affect the demand for labour
Demand for output
If there is an increase in demand for the firms output, there may be an increase for labour.
- Marginal revenue productivity of labour
The more productive the worker, the more revenue they will generate than his/her wage rate. This may increase the demand for demand.
- Wage rate
If the wage rate increases then this increases the costs for employers and may reduce the demand for labour.
- Price for other factors of production
Prior to employing more labour, the firm would compare the cost of the additional labour with that of other factors of production available to determine which is the most competitive.
- State subsidies
If the state were paying subsidies for the hiring of additional labour then this may make it more attractive to employ additional labour.
Student checkpoint
Outline five developments, other than a fall in MRP, which may result in a firm reducing its number of employees.
Demand for Factors of Production (eg. Labour)
The amount a business uses a factor will be determined by its contribution to the business and how much has to be paid for that factor.
To help us understand this, we need to study:
- Marginal revenue productivity (MRP): The extra revenue earned when an additional unit of labour/ is employed.
- Marginal physical productivity (MPP): the extra output produced when an additional unit of a factor of production is employed
Example of MRP:
| Number of workers | Total Revenue (€) | Marginal revenue Productivity (€) |
| 1 | 120 | |
| 2 | 200 | |
| 3 | 260 | |
| 4 | 310 | |
| 5 | 350 |
| Plot MRP below (MRP on Y axis and number of workers on X axis) |
Note: if the wage rate was €50 per day, only four workers will be hired. This is because the fifth worker will only generate an additional €40 in revenue, therefore a loss of €10 will be made.
Why does MRP slope downwards from left to right?
Video: https://www.youtube.com/watch?v=uNSvpfBrVDo
- The law of diminishing marginal returns
As more workers are employed their marginal product will begin to decline
- The law of demand
In order to sell a larger quantity the business will have to reduce the price of their product. As a result of this the revenue earned from each unit of output declines.
Factors affecting marginal revenue productivity
- Productivity of the factor
The more productive each additional factor employed is then the more MRP that factor will earn.
- The selling price of the output
If the selling price obtained on the market is rising or constant (not falling) then the higher will be that factor’s MRP.
- The law of demand
On the market, the law of demand dictates that in order for more to be sold then the price must be reduced – this affects the marginal revenue obtained by the firm.
MRP theory of wages
The MRP theory of wages states workers will be hired up to the point when the marginal revenue product is equal to the wage rate. If the marginal revenue brought by the worker is less than the wage rate, then employing that labour would cause a decrease in profit.
The Marginal Revenue Productivity of the fourth worker is €50, therefore the workers from 1 to 4 receive the MRP, but hiring the fifth worker makes a loss of €10.
Difficulty in measuring / calculating MRP
- There is usually a contribution of both capital and labour
- Services aren’t sold on the market
Marginal Physical Product (MPP)
| Number of workers | Total Output | Marginal Physical Product |
| 1 | 40 | 40 |
| 2 | 65 | |
| 3 | 80 | |
| 4 | 90 | |
| 5 | 95 |
As we can see the total output of the fifth worker is 95 units, however the 5th worker only contributes 5 units (MPP 5 units)
Marginal Physical Product (MPP) depends on:
- Quality of the factors
If the quality of the factors used improves then workers become more efficient and additional output will be produced.
- Training provided for the factors
If the factors are trained they become more skilled, resulting in an increase in efficiency and more output.
- Expertise of the entrepreneur
If the entrepreneur is expert in organising the production unit then each factor will be more productive and work to their maximum efficiency
- Law of diminishing marginal returns
As each additional unit of factor is used a point will be reached where each additional output produced will decline
Student checkpoint
- Define the term marginal Revenue Productivity of a factor of production
- State and explain two factors that can influence MRP
- Outline two difficulties that may arise in measuring MRP
Exam Question:
Factors that affect the supply of labour
- Wage levels within the economy
Higher wages in recent years act as an incentive for more people to supply labour. However, with recent lowering of wages, we may see a fall in this figure.
- Rates of income tax within the economy
In the past a reduction of income tax acted as an incentive for people to join the workforce.
- Labour mobility / migration
The workforce in Ireland has become more mobile. There are fewer barriers in place preventing the movement of workers. With EU enlargement, the free movement of labour is increasing
- Participation rate
The number of people willing to work within the 15-65 age groups has increased. More women are working and people were once retired are willing to take up part time employment.
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Backwards Bending Supply curve
It is possible that as people earn higher incomes they may desire more leisure and less work e.g. if a carpenter earning €600 per week gets an increase to €850 per week he/she may be less inclined to work overtime.
A backward bending supply curve indicates that at higher wages less labour is being supplied, but only at this higher wage.
SEC 2022
Construct equilibrium of labour market equilibrium
The equilibrium wage rate: This is when the demand and supply curves of labour are brought together. It is here where we find equilibrium wage rate.
Free Labour Market
- A free market is one where no restrictions on demand and supply of labour.
- Where the demand for labour equals to the supply of labour the equilibrium wage rate is set.