The Labour Market: Labour Supply

A-level Economics

Understanding labour supply in the labour market

Labour supply can be defined as two things:

Occupational supply: the number of workers willing to work in an occupation at a given wage rate.

When the wage rate rises, people are being rewarded more for their time. Therefore, we can expect labour supply to rise – this explains why the labour supply curve is upward sloping.

Individual supply: the total number of hours that a person is willing and able to work at the given market wage rate.

Individuals have a choice to use their time for work or leisure

Just like the supply curve before, the supply curve for the individual is upward sloping. However, there comes a point where individuals choose not to sacrifice work for their limited leisure time.

This explains that the supply curve for the individual can be backward bending.

[First of all, remember that leisure time can be considered normal and time spent working is considered inferior (remember normal and inferior goods?). Remember this for later on.]

When wages rise initially, the individual is more willing and able to work because they have 1) a low income and 2) plenty of free time.

So, an increase in wage rate will inspire the worker to work many more hours. Hours supplied will therefore increase. If an individual chooses not to work and have leisure time instead, then the opportunity cost of that leisure time is now higher. If they chose to go to work, then they would be earning more money than before, so it is costing them more by not working.

This is called the substitution effect. Workers are choosing to substitute leisure time with work.

However, remember as the individual works more and more, leisure time is becoming scarcer as it is limited (there are only 24 hours in a day!).

Remember earlier on we said that leisure time was like a normal good? That means if you earn more, you want more leisure time, because it is more desirable than working time.

So naturally, there comes a point where the income effect starts to outweigh the substitution effect, and the individual chooses not to substitute any more leisure time with work. Leisure time is the normal good, so with higher wages, the individual chooses to work less.

You could say that the point where the individual supply curve bends backwards is the individual’s target income. It is the income that they earn which they are comfortable with, which pays and satisfies their needs and wants.

Study this diagram to understand this in more detail for a better understanding.

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What affects the supply of labour?

The supply of labour is affected by the benefits to employees. These benefits are

1.       Monetary benefits (also known as pecuniary benefits)

2.       Non-monetary benefits (non-pecuniary benefits)

Monetary benefits are defined as the benefit the employee gets from the wages they receive from employers. E.g. cars, clothes, fancy holidays etc.

Non-monetary benefits is the welfare that is gained by an employee from their job, excluding the wage they receive. E.g. employee discount, generous holiday allowance, opportunity for promotion, flexible working hours, job security, job perks etc.

So, the supply of labour is influenced by both monetary and non-monetary benefits. Therefore, it Job A pays more than Job B, it is still possible that more people find Job B more desirable because of the non-monetary benefits of Job B. That’s why some people choose to be paid less and have a happy life.

However, some people choose not to have such a happy life and get paid more instead. They choose to sacrifice their welfare for the monetary benefits of a job, rather than the non-monetary benefits.

It’s all dependent on the individual.

Other factors that influence supply

1.       The working population: If there is a greater working population in a country, then there will be a greater supply of labour

a.       Net migration has this effect. An increase in net migration should increase the supply of labour in a country. In the EU, there is free movement of labour which means that labour can move to countries within the EU, where there is a skills shortage. This can also help with seasonal shortages too.

2.       Wage competitiveness: Industries which pay workers poorly will struggle to attract new workers

3.       Job publicity: jobs need to be noticed by people. Therefore, jobs need to be advertised correctly

Elasticity of labour supply

Labour supply elasticity can be either inelastic or elastic (just like a regular supply curve for a good/service).

Elastic labour supply means that workers are very sensitive to a change in the wage rate. A small increase in the wage can mean a massive increase in the willingness to supply labour hours.

Inelastic labour supply means that workers are not very sensitive to a change in the wage rate. A large increase in the wage rate may mean a very small increase in the willingness to supply labour hours.

Skills and Qualifications

The main determinant of the elasticity of labour supply are the skills and qualifications needed for a job.

1.       If you are in a low-skilled industry: labour supply will tend to be elastic. There will generally be a larger pool of applicable workers who are all competing for one job.

2.       If you are in a high-skilled industry: labour supply will tend to be inelastic. There will be a smaller pool of applicable workers. An example would be doctors – there is a shortage of doctors in the UK because it takes many years of education and training to be qualified for the job. It would take a very large increase in doctors’ wages to attract more people to train – however, the difference would only be felt in the long-term because it takes such a long time to train as a doctor.

Mobility of Labour

The mobility of labour can also affect the elasticity of labour supply.

There are two types of labour mobility:

1.       Occupational mobility: this measures how quickly workers can switch between different occupations

2.       Geographical mobility: this measures how quickly workers can move to locations where jobs are.

If occupational and geographical mobility of labour is very mobile, then supply will tend to be elastic, because people will be able to respond quickly to changes in the wage rate.

So, in summary we have learned:

1. Occupational labour supply

2. Individual labour supply

3. Backward bending supply curve

4. Labour supply factors

5. Elasticity of labour supply