OxfordAQA International AS and A-level Economics: Wage determination (9640) – Revision Notes

These notes cover OxfordAQA International AS and A-level Economics (9640), specification version 1.2, sections 3.3.4.3 (perfectly competitive labour markets) and 3.3.4.4 (imperfectly competitive labour markets). Section 3.3 is extra International A2 content. All figures are invented and illustrative. For full explanations, use the study guide, then try the practice questions.

Demand and supply curves for labour are in the demand for and supply of labour revision notes. Course pages: OxfordAQA A-level Economics hub and checklist. To find weak spots first, take a free 10-minute diagnostic.

Key terms

Term	Meaning
Wage taker	A firm that cannot influence the market wage
Marginal revenue product (MRP)	Extra revenue from one more worker; the firm’s demand for labour
Average cost of labour (ACL)	Wage paid per worker; the supply curve facing the firm
Marginal cost of labour (MCL)	Extra total wage bill from hiring one more worker
Monopsony	A single buyer of labour (or one with dominant buying power)
Monopsonistic exploitation	Workers paid less than the MRP of the last worker hired
Bilateral monopoly	A union (one seller) bargaining with a monopsonist (one buyer)
Imperfect information	Workers or employers lack the facts needed to match pay and productivity
Relative wage	One occupation’s wage compared with another’s

Perfectly competitive labour market

Conditions: many employers and workers, identical workers, full information, free mobility, no union.

• Market wage is where market demand equals market supply.
• The firm can hire any number at that wage, so its supply curve is flat and ACL = MCL = wage.
• Hire where MRP = wage.
• Relative wages follow shifts in demand and supply. Higher pay in one occupation signals workers to move in, which in time narrows the gap.

Method in steps

1. Write both curves as equations and set demand equal to supply.
2. Solve for the wage, then substitute to get employment.
3. Check by putting the wage into both equations.
4. For a shift, repeat with the new curve and compare percentage changes.

Worked reminder (firm). A joinery firm sells each unit for 3 cu. Extra output from workers 1 to 4 is 10, 8, 6 and 4 units, so MRP is 30, 24, 18 and 12. At a wage of 20 the firm hires 2 (24 ≥ 20, but 18 < 20).

Worked reminder (market). Qd = 700 − 20W and Qs = 100 + 30W. Then 600 = 50W, so W = 12, Q = 460. Check: 700 − 240 = 460 and 100 + 360 = 460.

Limits. The specification says all real-world labour markets are imperfectly competitive to some extent, so the model is a benchmark, not a description.

Why labour markets are imperfect

Source	Effect	What strengthens it
Monopsony power	Employer can pay below MRP	Few employers, specific skills, immobility, few outside options
Trade unions	Collective seller raises wage above the market level	High membership, inelastic labour demand, scarce skills, low unemployment
Imperfect information	Wage differences for similar workers; slow adjustment	High search costs, hidden productivity, no wage transparency

Monopsony

The monopsonist faces the whole upward-sloping supply curve, so raising the wage to attract one more worker means paying it to all. MCL is therefore above ACL and rises faster.

Method in steps

1. Write the supply curve (ACL) as a wage equation.
2. Total cost = L × W. Differentiate or take the extra cost of each step to get MCL. For W = a + bL, MCL = a + 2bL.
3. Set MCL = MRP to find employment.
4. Read the wage from the supply curve at that employment.
5. Compare with the competitive result, where supply = MRP.

Worked reminder. Supply: W = 2 + L. MRP = 26 − L. (L in tens of workers, W in cu.)

	Competitive	Monopsony
Rule	26 − L = 2 + L	26 − L = 2 + 2L
Employment	L = 12	L = 8
Wage	14	10
MRP at that L	14	18

Monopsony employment is 33% lower and the wage 29% lower than competitive levels. The wage is 10/18 = 56% of MRP: a gap of 8 cu a worker.

Diagram in words. Wage up the side, workers along the bottom. Rising supply (ACL), steeper MCL above it, falling MRP. MCL crosses MRP at employment 8. The wage is on the supply curve directly below that crossing.

Evaluation. Output is lost and workers are paid less than their contribution. The result depends on the number of alternative employers, how mobile workers are and whether the firm can pay different wages to different workers.

Trade unions

Entering a competitive market (market above, W = 12, Q = 460, from Qd = 700 − 20W and Qs = 100 + 30W). If the union wins 15: employment falls to 700 − 300 = 400 and 100 + 450 = 550 want work. Excess supply is 150, so jobs fall (460 to 400, down 13%) while the wage rises 25%. Elasticity of demand is −13/25, about −0.5, so the wage bill rises.

Entering a monopsony (reminder market above).

Union wage	Supply	Demand	Employment
14	12	12	12
16	14	10	10
18	16	8	8
20	18	6	6

Employment is the lower of supply and demand at the fixed wage. Wages from 10 up to 18 give employment at or above the monopsony level of 8, and the peak is at 14, the competitive wage. Above 18 (the MRP at monopsony employment), employment falls below the monopsony level.

Must-know contrast

• Competitive market plus union: higher wage, fewer jobs, unemployment.
• Monopsony plus union: higher wage and, within a range, more jobs.

Union strength. Higher with high membership, inelastic demand for labour (labour a small share of cost, few substitutes), profitable employers, low unemployment, scarce skills and a supportive legal framework.

Evaluation points. Insiders gain, outsiders may lose. Possible productivity gains from voice and lower turnover. Possible cost-push pressure. Possible move to capital or overseas.

Quantitative skills

• Percentage change = (new − old) ÷ old × 100.
• Wage elasticity of labour demand = percentage fall or rise in jobs ÷ percentage rise or fall in pay. If wage rises 10% and employment falls 4%, the value is −0.4, which is inelastic. The wage bill is 1.10 × 0.96 = 1.056, up 5.6%.
• Index number = value ÷ base value × 100. A wage of 40 rising to 46 is an index of 115.
• Real wage change = (1 + nominal change) ÷ (1 + inflation) − 1. Nominal pay up 3% when prices rise 5% gives 1.03 ÷ 1.05 − 1 = −1.9%.

Quick self-test

1. State the profit-maximising hiring rule for a firm in a perfectly competitive labour market.
2. What is the shape of the labour supply curve facing one such firm?
3. Qd = 700 − 20W and Qs = 100 + 30W. Find the equilibrium wage and employment.
4. For a monopsonist with supply W = 2 + L and MRP = 26 − L, find employment and the wage.
5. In question 4, what is the highest union wage that keeps employment at or above the monopsony level?
6. Why is the monopsonist’s wage read from the supply curve and not the MCL curve?
7. Wages rise 10% and employment falls 4%. Calculate the elasticity and say what happens to the wage bill.
8. Nominal wages rise 3% while the price level rises 5%. What is the real wage change?
9. Give two factors that increase a union’s bargaining power.
10. Explain how imperfect information can cause two similar workers to earn different wages.

Answers

1. Keep hiring until MRP has fallen to the wage.
2. Perfectly elastic (horizontal) at the market wage.
3. 700 − 20W = 100 + 30W gives W = 12, Q = 460.
4. MCL = 2 + 2L, so 26 − L = 2 + 2L gives L = 8; wage = 2 + 8 = 10.
5. 18, which is the MRP at employment 8 (26 − 8).
6. The wage needed to attract L workers is shown by the supply curve. MCL shows the extra cost of the marginal worker, which includes raises for existing workers.
7. −4 ÷ 10 = −0.4 (inelastic). The wage bill rises 5.6%.
8. About −1.9%.
9. Any two of high membership density, inelastic labour demand, profitable employer, scarce skills, low unemployment, supportive laws.
10. A worker who does not know higher pay is available elsewhere accepts less. Search costs and hidden productivity also stop wages equalising.

Where marks are usually lost

• Drawing or describing MCL and MRP but reading the wage from the wrong curve.
• Stating that unions always cause unemployment, with no mention of monopsony.
• Ignoring excess supply when a wage is set above equilibrium.
• Mixing up a movement along and a shift of a curve when relative wages change.
• Leaving unlabelled the axes, curves or equilibrium points of a described diagram.
• Giving unsupported claims such as “the union is powerful” without a reason.
• Quoting percentages without the working or the base.
• Describing the benefits and costs but never reaching a judgement.

Official syllabus

OxfordAQA International AS and A-level Economics (9640) specification, version 1.2, first teaching September 2020, first International A-level exams May/June 2022, published by OxfordAQA. Sections 3.3.4.3 and 3.3.4.4, with section 3.5 (quantitative skills).