284 Reading: The Demand for Labor
Start Up: College Pays
On NBC’s 2005 television series, The Apprentice: Street Smarts vs. Book Smarts, the contestants without college degrees who were chosen for the program were earning three times as much as those with college degrees. The two sides fought valiantly against each other, and the final episode pitted 37 year old, “street smart” Tana, a top-selling sales woman for Mary Kay, against 26 year old, “book smart” Kendra, a real estate agent. At the end of the Apprentice series, it was Kendra, the college graduate, to whom Donald Trump shouted, “You’re hired!” As the array of contestants in the series demonstrates, not every college graduate earns more than every high school graduate, but on average, that is certainly the case.
One way of measuring the payoff from college is to compare the extent to which the wages of college-trained workers exceed the wages of high-school-trained workers. In the United States the payoff from college has soared over the last 25 years.
In 1979, male college graduates between 25 and 34 years old earned 28% more than male high school graduates in the same age bracket. By 2006 the gap had almost tripled—young male college graduates earned a stunning 76% more than young male high school graduates. Female college graduates gained as well. Young female college graduates earned 54% more than their high-school-educated counterparts in 1979; that gap increased to 86% by 2006.
The dramatic widening of the wage gap between workers with different levels of education reflects the operation of demand and supply in the market for labor. For reasons we will explore in this module, the demand for college graduates was increasing while the demand for high school graduates—particularly male high school graduates—was slumping.
Why would the demand curves for different kinds of labor shift? What determines the demand for labor? What about the supply? How do changes in demand and supply affect wages and employment? In this module we will apply what we have learned so far about production, profit maximization, and utility maximization to answer those questions in the context of a perfectly competitive market for labor.
This is the first of three modules focusing on factor markets, that is, on markets in which households supply factors of production—labor, capital, and natural resources—demanded by firms. Look back at the circular flow model introduced in the initial module on demand and supply. The bottom half of the circular flow model shows that households earn income from firms by supplying factors of production to them. The total income earned by households thus equals the total income earned by the labor, capital, and natural resources supplied to firms. Our focus in this module is on labor markets that operate in a competitive environment in which the individual buyers and sellers of labor are assumed to be price takers. Other modules on factor markets will discuss competitive markets for