ECON Micro Canadian 1st Edition

McEachern Solutions Manual

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 CHAPTER 12
LABOUR MARKETS AND UNIONS

ANSWERS TO END-OF-BOOK QUESTIONS AND PROBLEMS

1.1 (Market Supply of Labour) The following table shows the hours per week supplied to a particular mar-
ket by three individuals at various wage rates. Calculate the total hours per week (QT) supplied to the
market.
Hours per Week
Hourly Wage Q1 Q2 Q3 QT
$ 15 20 0 0 ____
16 25 0 0 ____
17 35 10 0 ____
18 45 25 10 ____
19 42 40 30 ____
20 38 37 45 ____

Which individuals, if any, have backward-bending supply curves in the wage range shown? Does the
market supply curve bend backward in the wage range shown in the table?

Hours per Week

Hourly Wage Q1 Q2 Q3 QT
$ 15 20 0 0 20
16 25 0 0 25
17 35 10 0 45
18 45 25 10 80
19 42 40 30 112
20 38 37 45 120

Individuals 1 and 2 have backward-bending supply curves; the market supply curve is not backward-
bending.

1.2 (Substitution and Income Effects) Suppose that the cost of living increases, thereby reducing the pur-
chasing power of your income. If your money wage doesn’t increase, you may work more hours be-
cause of this cost-of-living increase. Is this response predominantly an income effect or a substitution
effect? Explain.

If you work more even though the net utility from work has declined because of the eroded value of
your hourly pay rate, the income effect has dominated the substitution effect in your choice to work
more hours.

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Chapter 12 Labour Markets and Unions C12-2

1.3 (Nonwage Determinants of Labour Supply) Suppose that two jobs are exactly the same except that one
is performed in an air-conditioned workplace. How could you measure the value workers attach to such
a job amenity?

You would be especially interested in measuring the difference in the two wages. The job in the air-
conditioned workplace should offer a lower wage than the job without air conditioning, since the job
amenity increases the supply of labour to that market, other things constant.

1.4 (Nonwage Determinants of Labour Supply) Assume that your current preferences for goods and ser-
vices are greater than what your current income can purchase. Discuss how this would affect the im-
pact of an increasing wage on your labour supply.

If your current preferences for goods and services are greater than what your current income can pur-
chase then increasing wages could not reduce the supply of labour unless the increase in wages results
in your preferences for goods and services being fulfilled. In the conventional model of labour supply,
increasing the wage rate increases the price of “leisure,” hence increasing the supply of labour, which
is referred to as the substitution effect. Increasing the wage rate also increasing one’s income, which
increases the demand for “leisure,” assumed to be a preferred good (normal good). This so-called in-
come effect would reduce the supply of labour. Eventually, it is argued, the income effect is expected to
outweigh the substitution effect, reducing the supply of labour, yielding a backward-bending labour
supply curve. But this will not take place as long as increasing wages are unable to meet one’s prefer-
ences for a target amount of goods and services.

2.1 (Why Wages Differ) Why might permanent wage differences occur between different markets for la-
bour or within the same labour market?

Jobs that require a long and/or costly training period pay a wage premium over jobs that require little
or no training, other things constant. Different individuals may have different inherent abilities in their
chosen profession. The individual with greater ability, other things constant, is paid a wage premium
within the same market. Riskier jobs, other things constant, pay a wage premium over less risky jobs.
Geographic immobility may contribute to wage differences among locations. Barriers to migration
maintain such wage differences. Although they are illegal, racial or gender discrimination can lead to
permanent wage differences within a labour market.

3.1 (Craft Unions) Both industrial unions and craft unions attempt to raise their members’ wages, but each
goes about it differently. Explain the difference in approaches and describe the impact these differences
have on excess quantity of labour supplied.

An inclusive, or industrial, union attempts to establish a wage floor above the competitive market
wage. But a wage above the market-clearing level creates an excess quantity of labour supplied, so the
union must somehow ration jobs among its members. Exclusive, or craft, unions try to raise the wage
while avoiding excess quantity of labour supplied. They do so by restricting the supply of labour. Ex-
clusive unions limit their membership and force all employers in the industry to hire only union mem-
bers.

Copyright © 2016 by Nelson Education Ltd.

Chapter 12 Labour Markets and Unions C12-3

4.1 (Industrial Unions) Review the logic underlying the exhibit below. Then determine the effect, on the
industry and a typical firm, of an increase in the demand for industry output. Show your conclusions on
a graph. Does the magnitude of the increase in demand make a difference?

D' d'

Graph panel (a) shows that the market wage would be W if there were no union. Equilibrium employ-
ment would be E. Panel (b) shows that an individual firm faces a perfectly elastic labour supply curve
at the market wage. The firm will hire e workers. However, if a union negotiates an industry-wide
wage at W', employers will cut employment to E' and a surplus supply of labour will develop. At the
higher negotiated wage, the individual firm will cut its employment to e". An increase in the demand
for labour will increase the equilibrium quantity of employment. If demand were to increase to D', as
shown in the graphs below, market employment would increase to E" and the market wage would
equal the negotiated wage of W'. If there were less of an increase in demand, a surplus of supply of la-
bour would persist, though it would be smaller. If there were more of an increase in demand, the mar-
ket wage would be greater than the negotiated wage and a shortage of supply of labour would develop.
When market demand increases, the labour demand curve for the individual firm also increases.

4.2 (The Strike) Why might firms in industries with high fixed costs be inclined to prevent strikes or end
strikes quickly?

During a successful strike, the firm cannot produce goods for sale. Therefore, the strike acts as a shut-
down of the firm. As the text points out, a firm suffers losses in the form of fixed costs even if it shuts
down. If the firm has substantial fixed costs, it will be under greater pressure to settle its labour dis-
putes quickly. One caveat to this is that the firm may anticipate the strike and prepare for it by increas-
ing inventories; thus, it will not be completely without revenues.

Copyright © 2016 by Nelson Education Ltd.

Chapter 12 Labour Markets and Unions C12-4

4.3 (Industrial Unions) Why are unions more effective at raising wages in oligopolistic industries than in
competitive industries?

Competitive firms cannot easily pass along higher union wages as higher product prices. Unions tend
to be less successful at raising wages in competitive industries and more successful in less competitive
industries, such as airline, auto, steel, mining, and transportation.

4.4 (Increasing the Demand for Labour) Why might increasing the wage floor not reduce the demand for
union labour?

Increasing the wage floor, such as increasing the minimum wage, need not reduce the demand for la-
bour, if this increase has the effect of increasing firm efficiency. If this increased productivity takes
place, this would shift the demand curve for labour outward, as the demand curve is derived from the
marginal product of labour. This outward shift in the demand curve for labour could outweigh any
negative effect (moving up along a given demand curve) of increasing the wage floor.

SUPPLEMENTAL CASES, EXERCISES, AND PROBLEMS

Experiential Exercises

1. Have students check career opportunities in the Financial Post and have students interested in econom-
ics and finance job prospects check out Job Openings for Economists (http://www.aeaweb.org/joe/).
Have them read several descriptions for jobs that are of interest to them. Have them identify the educa-
tion and skill requirements of the positions.

2. Ask students to interview five classmates to determine the nature of their labour supply curves for a
summer job. Students should ask each of them how many hours of work he or she would be willing to
supply at wage rates of $10, $15, $20, $25, and $30 per hour. They should then plot the results on a la-
bour supply diagram. Do any of these individuals exhibit a backward-bending labour supply curve? Is
the market supply curve for these five individuals backward-bending?

3. Robert Frank’s “Talent and the Winner-Take-All-Society” appeared in The American Prospect (21
March, 1994) at http://www.prospect.org/cs/articles?article=talent_and_the_winnertakeall_society.
Have students read this non-technical article and discuss some of the problems that Frank identifies.

Additional Questions and Problems

1. (Uses of Time) Describe the three possible uses of an individual’s time, and give an example of each.

The three uses of time are: market work, nonmarket work, and leisure. Market work is performing an
income-earning job—selling time in the labour market. This may be by working out of a home office as
a consultant or taking orders at McDonald’s. Nonmarket work is using time to produce one’s own
goods and services—no income is generated. Such work includes activities such as mowing the lawn,
washing the car, or cooking meals. Leisure is all nonwork uses of one’s time: reading for pleasure, go-
ing to movies (unless you’re a movie critic), sleeping, and so forth.

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Chapter 12 Labour Markets and Unions C12-5

2. (Work and Utility) Explain the concept of the “net utility of work.” How is it useful in developing the
labour supply curve?

In the conventional model of labour supply, it is assumed that for most people, time spent working is a
source of disutility. You work to provide yourself goods and services from which you derive utility. The
net utility of work is the difference between the utility from consuming the goods and services that you
acquire through working and the disutility of the work itself. This concept holds for both market and
nonmarket work. However, there is much evidence to support the hypothesis that most people actually
derive utility from work, based on the pleasure of getting things done, engaging with others, and so-
cializing. In this case, utility would be derived from work itself and the utility from consuming goods
and services that you purchased from the income you earn at work.

3. (Utility Maximization) How does a rational consumer allocate time among competing uses?

A rational consumer allocates time among market work, nonmarket work, and leisure. Maximizing
utility (the rational consumer’s goal) requires allocating time so that the expected net marginal utili-
ties of the last unit of time provided to each of these three uses are equal. The higher the market wage
(before the backward-bending portion of the supply curve), the less time is allocated to nonmarket
work and leisure because the net marginal utility of market work increases. The more cheaply house-
holds can produce their own goods and services, relative to the market, the more time is allocated to
nonmarket work—so less time is allocated to market work and/or leisure. The higher the value of lei-
sure, the less time is allocated to market and/or nonmarket work.

4. (Substitution and Income Effects) Suppose that the substitution effect of an increase in the wage rate
exactly offsets the income effect as the hourly wage increases from $12 to $13. What would the supply
of labour look like over this range of wages? Why?

The substitution effect implies that an increase in the wage rate causes the quantity of labour supplied
to increase. The income effect works in the opposite direction. If the two were to offset each other for
all wage levels, the labour supply curve would be perfectly vertical over this range of wages.

5. (Mediation and Arbitration) Distinguish between mediation and binding arbitration. Under what cir-
cumstances do firms and unions use these tools? What is the role of a strike in the bargaining process?

In mediation, an impartial observer listens to the bargaining positions of both the firm and the union
and then suggests adjustments to resolve their differences. Neither party is required to accept the sug-
gestions of the mediator. In contrast, binding arbitration refers to a situation in which the mediator
evaluates both sides’ positions and issues a decision that the firm and the union are required to accept.
Mediation and/or arbitration are used when the normal collective bargaining fails to lead to an
agreement.

The threat of a strike is a major union tool in the bargaining process. A strike is designed to withhold
labour and thus stop production at the firm. If the strike is successful (that is, if the firm is forced to
stop production), the firm becomes willing to accept a proposal closer to the union’s position to stem
the losses resulting from the strike.

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Chapter 12 Labour Markets and Unions C12-6

ANSWERS TO CASE STUDIES

12.1 Winner-Take-All Labour Markets

1. What characterizes a winner-take-all labour market? Offer some reasons why corporate heads now earn
much more than they did in the 1970s.

Winner-take-all labour markets are those in which a few key individuals critical to the overall success
of the enterprise are richly rewarded. Corporate heads now earn much more because successful prod-
ucts can be sold across the country and around the world, firms now compete more for top executives
rather than hiring from within the company, and Canadians are more accepting of wide pay differ-
ences than are others. Evidence exists that shows certain countries like Canada are relatively more
productive and can afford to pay CEOs much more than less developed economies.

This case is available to students online at http://www.nelson.com/econmicro1e.

12.2 Government Bailout of GM and Chrysler

1. How would automobile workers benefit from increased demand for GM and Chrysler vehicles? How
would the CAW benefit?

The demand for labour, union or nonunion, is derived from product demand. If demand for GM and
Chrysler vehicles increases, then the demand for CAW labour would increase, leading to increases in
wages and employment, benefiting both the workers and their union.

Copyright © 2016 by Nelson Education Ltd.