Lesson: The Theory of Labor Markets

Demand for Labor in Perfectly Competitive Output Markets

Demand for Labor in Perfectly Competitive Output Markets

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  • When a business begins, or when a business goes through a restructuring process, it faces a challenge. The business must determine how many workers it will need to hire.
  • In a perfectly competitive labor market, companies hire all the workers they want at the pay rate that most are willing to work. 

The question for any firm is how much labor to hire. We can define a Perfectly Competitive Labor Market where firms can hire all the workers they wish at the going market wage. Think about secretaries in a large city. Employers who need secretaries can probably hire as many as they need if they pay the going wage rate. They hire workers up to the point L1 where the going market wage equals the value of the marginal product of labor. Graphically, this means that firms face a horizontal supply curve for labor, as the figure here shows.

Given the market wage, profit maximizing firms hire workers up to the point where:

begin mathsize 22px style W subscript m k t space end subscript equals space V M P subscript L end style