AQA A-level Economics: Monopsony and trade unions in labour markets (7136)

This guide follows the AQA AS and A-level Economics specification (version 1.3, 29 June 2022). It covers two A-level sub-sections of The labour market: The determination of relative wage rates and levels of employment in imperfectly competitive labour markets (3.1.6.4 on the AQA website, 4.1.6.4 in the combined PDF), and The influence of trade unions in determining wages and levels of employment (3.1.6.5 and 4.1.6.5). The specification states no separate AS-only or A-level-only labels for this content. Every country, firm and figure below is invented for illustration.

Related pages: the revision notes, the practice questions, the wider individuals, firms, markets and market failure guide, the AQA A-level Economics hub, the printable checklist and the free 10-minute diagnostics.

What you must be able to do

Specification point	What it asks of you
3.1.6.4	Explain how monopsony power, trade unions and imperfect information make a labour market imperfect
3.1.6.4	Show how a monopsonist can hold both the wage and employment below the perfectly competitive levels, using diagrams
3.1.6.5	Explain the factors that affect a union’s ability to influence wages and employment in different labour markets
3.1.6.5	Predict the effect of introducing a union into a perfectly competitive market and into a monopsony, using diagrams

This guide assumes you know the competitive model, in which the wage and employment are set where the labour demand curve (marginal revenue product, MRP) meets labour supply. If not, read the competitive labour market material first. This guide does not cover the minimum wage or discrimination.

Three imperfections

The competitive model assumes many employers, many workers, full information and no collective action. Real markets depart from it in three ways named in the specification.

Monopsony power. A monopsony is a market with a single buyer, here a single employer of labour. In practice the term is used for a dominant employer, such as the only large factory in a small town. It can set the wage rather than accept it.

Trade unions. A trade union is a body of workers that negotiates jointly with employers on pay and working conditions. On the labour supply side, it turns many price-taking sellers into one seller with bargaining power.

Imperfect information. Workers may not know what other employers pay or which vacancies exist. Employers may not know how productive a candidate will be. Searching is costly, so workers stay in jobs paying less than they might get elsewhere. That gives employers some wage-setting power even with several firms in the market.

Monopsony: why marginal cost of labour exceeds the wage

A monopsonist faces the whole upward-sloping market supply curve of labour. Because it pays one wage to all workers in the same job, attracting one more worker means raising the wage for everyone already employed.

• The supply curve is the average cost of labour (AC): the wage per worker.
• The marginal cost of labour (MCL) is the extra total wage bill from hiring one more worker.
• MCL lies above supply at every level of employment, because it includes the pay rise given to existing staff.

A competitive firm is a wage taker, so for it the wage and the MCL are the same.

Worked example 1: Hillside Care, a single care home in an invented town

Hillside Care is the only employer of care workers in Town A. To attract L workers it must pay a wage of 7 + L pounds per hour. Each extra worker’s MRP is 28 − 2L pounds per hour. These numbers are illustrative.

Workers (L)	Wage (AC)	Total wage bill	MCL	MRP
1	8	8	8	26
2	9	18	10	24
3	10	30	12	22
4	11	44	14	20
5	12	60	16	18
6	13	78	18	16
7	14	98	20	14
8	15	120	22	12

Total wage bill is wage times workers, for example 12 × 5 = 60. MCL is the change in the bill: 78 − 60 = 18 for the sixth worker.

Monopsonist’s choice. It hires while MRP is at least MCL. At 5 workers MRP (18) exceeds MCL (16), so the fifth is worth hiring. The sixth adds 16 to revenue and costs 18, so it is not. Employment is 5. The wage is read from the supply curve at 5 workers: 12 pounds. This is profit-maximising employment, where MCL = MRP.

Competitive benchmark. If many small firms bid for the same workers, each takes the wage as given and hires up to the point where MRP = wage. At 7 workers, MRP and wage are both 14. Competitive wage 14, employment 7.

Comparison.

	Wage	Employment	Wage bill
Perfect competition	14	7	98
Monopsony	12	5	60

The wage is 2/14 = 14.3% lower and employment 2/7 = 28.6% lower. At 5 workers each is paid 12 while adding 18 to revenue, a gap of 6 pounds. This gap is sometimes called monopsonistic exploitation.

Reading the diagram

You are expected to draw this. Axes: wage (vertical) and number employed (horizontal). Draw an upward-sloping supply curve (S = AC of labour), a steeper MCL curve above it, and a downward-sloping demand curve (MRP).

Label	Where	Meaning
Competitive equilibrium	S meets MRP	Wage 14, employment 7
Profit-maximising point	MCL meets MRP	Employment 5
Monopsony wage	Go up or down from 5 to S	Wage 12
Gap between MRP and wage at 5	Vertical distance from S to MRP	6 pounds

The usual drawing error is to read the wage off the MCL curve or the MRP curve. The employer hires where MCL meets MRP but pays only what the supply curve requires at that employment level.

Evaluating monopsony

• Elasticity of supply. The more elastic the labour supply, the closer MCL lies to supply, and the smaller the wage and employment gaps. Where workers can easily move to other firms or other areas, a dominant employer has little power.
• Degree of dominance. Few markets have one buyer. A handful of employers with similar power can behave in a similar way.
• Information and mobility. Workers who lack information or cannot move easily make supply less elastic and strengthen monopsony power.
• Wider effects. Low pay can make recruitment and retention harder in the long run, which may limit the gains from holding wages down.

Trade unions and their power

A union tries to raise wages, protect employment or improve conditions through collective bargaining, with the threat of industrial action as leverage. Its ability to do so differs across labour markets.

Factor	Effect on union power	Chain of reasoning
Membership density	Higher density, more power	Few non-members to replace strikers, so a strike is costly for the firm
Inelastic demand for labour	More power	A wage rise costs few jobs, so the union can push harder
Labour is a small share of total cost	More power	A pay rise barely raises costs per unit
Inelastic demand for the product	More power	The firm can pass higher costs on to consumers without losing many sales
Few substitutes for the workers	More power	Capital, imports or other labour cannot easily replace them
High skill and scarcity	More power	The employer cannot easily replace skilled staff
Low unemployment, strong economy	More power	Strikers find other jobs more easily; firms fear losing orders
High profitability	More power	The firm can afford to meet claims
Legal framework	Varies	Rules on striking, picketing and recognition change what a union can do
Employer concentration	Can raise or lower	A monopsonist faces a united union as a single bargaining partner

Two points to remember: demand for labour is derived demand, so product market conditions matter; and the factors interact, so a union with high density but weak demand for the product may still gain little.

A union in a perfectly competitive labour market

In the competitive model a union can raise the wage above equilibrium by bargaining, but employers respond by employing fewer workers.

Worked example 2: a union enters the market in Hillside’s industry

Suppose, instead, that Town A’s care workers are employed by many small firms, giving the competitive result of wage 14 and employment 7. A union negotiates a wage of 17 pounds for every worker.

• Demand at 17: MRP is at least 17 up to 5 workers (MRP at 5 is 18; at 6 it is 16). Employment falls to 5.
• Supply at 17: the supply wage is 7 + L, so L = 10 workers are willing to work. Excess supply is 10 − 5 = 5.
• The wage bill is 17 × 5 = 85, compared with 14 × 7 = 98 before.

The wage rises 21.4% (3/14) and employment falls 28.6% (2/7). Dividing, the wage elasticity of demand for labour is −28.6 ÷ 21.4 = −1.33, which is elastic, so the total pay of members falls.

The result depends on elasticity. At a wage of 15, demand is 6 (MRP at 6 is 16), supply is 8, the bill is 15 × 6 = 90, and 2 workers are surplus.

Diagram: the union wage is a horizontal line above equilibrium. It meets demand at a lower employment level and supply at a higher one, and the gap between them is the surplus of labour. Evaluate by distinguishing insiders (members kept in work at the higher wage) from outsiders (the unemployed and those priced out).

A union in a monopsony

A union facing a monopsonist can raise the wage without cutting employment. The union wage becomes the wage for every worker, so the employer no longer needs to raise pay for existing staff to attract extra workers. The MCL curve becomes flat at the union wage over the range where workers are willing to work at that wage.

Worked example 3: Hillside Care meets a union

Starting point: wage 12, employment 5. For each union wage, supply is wage minus 7, demand is the number of workers with MRP at least the wage, and employment is the smaller of the two.

Union wage	Supply	Demand	Employment	Wage bill
12	5	8	5	60
13	6	7	6	78
14	7	7	7	98
15	8	6	6	90
16	9	6	6	96
17	10	5	5	85
19	12	4	4	76

Between 12 and 14, higher wages go with higher employment because the firm moves along the supply curve towards the competitive point. At 14, the competitive wage, employment peaks at 7. Above 14 the union is the only constraint, employment falls back, and at 17 it equals the monopsony level of 5. At 19 it is 4, lower than under monopsony.

So the effect on employment depends on where the wage is set relative to the competitive level. Any wage between the monopsony wage and the wage at which employment returns to the monopsony level raises both pay and jobs.

Where one union faces one employer, the market is a bilateral monopoly. The wage then depends on bargaining strength, between the lowest and highest outcomes the two sides will accept. Union leaders may be tempted to push for a wage that cuts jobs. A well-informed union aims near the competitive wage.

Common errors

• Drawing MCL below supply. It always lies above, because the whole workforce gets the rise.
• Reading the monopsony wage off the MCL or MRP curve instead of the supply curve.
• Saying a union always causes unemployment. In a monopsony the result can be more jobs.
• Treating union power as fixed. It depends on demand elasticity, density, the product market and the economy.
• Failing to evaluate: a judgement should depend on the stated conditions, such as how elastic demand is.

Official syllabus

AQA AS and A-level Economics specification, version 1.3 (29 June 2022), published by AQA: the A-level sub-sections 3.1.6.4 and 3.1.6.5 on the AQA website (4.1.6.4 and 4.1.6.5 in the combined PDF).