Marketing Equilibrating Prcess

Marketing Equilibrating Process in Labor Markets

Labor markets always have two sides: supply and demand. On the demand side are firms which hire labor in order to produce goods and services. On the supply side are workers, who sell their time and expertise in exchange for compensation.

On both sides of the labor market, the relevant parties engage in purposeful behavior. In the core model of economics, companies seek to maximize the net present value of profit, which is the difference between the revenues they take in from the goods and services they sell and the costs they incur in producing those goods and services. Individuals, for their part, are assumed to seek to maximize utility, which depends positively on the goods they are able to buy with their income and negatively on the amount of leisure foregone while working.

The amount of labor demanded and supplied are both functions of the wage. The amount of labor demanded in a market decreases with the wage, all other things being equal. This negative relationship arises for two reasons: a higher wage induces existing employers to hire fewer workers than they would have if the wage had been lower, and it may induce some of these employers to go out of business entirely and hire nobody. On the other hand, the amount of labor supplied to a market increases with the wage, all other things being equal. Here too, there are two basic reasons: a higher wage in one market induces some workers to enter that market from other markets and also induces some individuals who are outside the market to seek work in this market.

In the real world, things are frequently not equal; demand and supply are functions of these other things as well. For instance, an improvement in product market conditions will cause more labor to be demanded at any given wage than before, and heightened prestige for a given occupation will cause more labor to be supplied at any given wage than before. As with other markets, a labor market is said to clear when the amount of labor demanded equals the amount of labor supplied. It is said to be in equilibrium when the economy tends toward a particular set of conditions and, once there, tends to stay there.

Whether equilibrium is characterized by market clearing or not depends on which equilibrating forces are free to operate in the labor market in question. In the standard labor market models, three fundamental equilibrating forces are postulated. First, firms are free to hire as many or as few workers as they want depending on wages and other conditions of employment. Second, workers are free within limits to move from one market to another or into and out of the workforce depending on wages and other conditions of employment. And third, the wage paid is free to rise or fall depending on supply and demand conditions. When all three of these equilibrating forces are free to move, the labor market is expected to clear in equilibrium. Wages and employment will therefore reflect supply and demand conditions.

Beyond these barriers to equilibration, which are ubiquitous, there are also settings in which one of the equilibrating forces, the wage rate, is not free to adjust. Wages may be set above the market-clearing level by a variety of institutional forces including minimum wages laws. When this happens, the predictable consequence is unemployment.

Moving beyond this basic labor market model, a number of other features are at the forefront of labor economics modeling today. Efficiency wage models recognize that a higher wage may increase worker productivity, because existing workers have greater incentives to work more efficiently because firms that pay higher wages attract a larger pool of applicants, from whom they can hire more selectively.