Factor Markets ‹ 149
Figure 10.6
10.4 Imperfect Competition in Product and Factor Markets
Main Topics: Market Power in Product Markets, Market Power in Factor Markets
We saw in the previous chapter that perfectly competitive markets might not always exist.
After all, the conditions for perfect competition are rather strict and not often observed in
the “real world.” In the sections that follow, we assume that the firm has some market power,
first in the product market and then in the factor (labor) market. To no surprise, the out-
come of wage and employment differs from the competitive outcome described previously.
Market Power in Product Markets
Perhaps the most important result seen from a firm that has the ability to be a price setter
is that the price exceeds marginal revenue. Because MR <Pwith market power, this has an
impact on the marginal revenue product function.
Under perfectly competitive price-taking conditions:
MRPc=MR ¥MPL=P¥MPL
Under conditions of market power:
MR <P: MRPm=MR ¥MPL<MRPc
The result of a lower marginal revenue product function is that the optimal amount of
employment falls at all wages. Figure 10.6 illustrates this. In other words, the monopolist
hires lesser amounts of all resources, including labor. This should make sense if you recall
that monopoly markets produce less output than the competitive market. If the market
produces less output, it makes sense that the market would employ fewer resources.
MRPm
$
Quantity Labor
Wage
Lc
MRPc
Lm
- Because MR <P, MRPm=MR ¥MPL<MRPc.
- A monopoly market employs fewer workers than the competitive market.
Market Power in Factor Markets
When a producer has extreme market power in the product market, we label them a price-
setting monopolist, and the price of the product is set above marginal revenue. Let’s turn
this situation around to the factor market. If an employer has extreme market power in the
factor market, we label them a wage-setting monopsonist, and we observe the wage set
below marginal factor cost.
In a competitive labor market, the firm could employ all it wanted at the market-deter-
mined wage. The key difference between monopsonyand a perfectly competitive labor
TIP
