CHAPTER 5

STUDY UNIT 3:
Labour Economics: Theories and application
LEARNING OUTCOMES:

 The importance of labour

economics

 Classical and neo-classical labour

market theory

 Labour market models

 Contemporary labour market

theories

 Labour markets I the future Why Labour Economics Is Important

 The SA labour market during Labour economics helps us to:

Covid-19
 Understand how wages are determined

 Explain unemployment and job creation

The importance of labour  Analyse inequality and income

economics distribution

What is Labour Economics?  Inform labour policy and legislation

 Labour economics is an independent  Understand the impact of:

field of economics
o Technology
 Focuses on:
o Globalisation
o The functioning of labour markets
o Economic shocks (e.g. Covid-19)
o Employment, unemployment, and
wages
Levels of Labour Economics
o Behaviour of employers and
employees  Positive economics

 Provides insight into: o Describes what is

o Individual behaviour o Objective analysis

o Social behaviour  Normative economics

o Economic decision-making in the o Prescribes what ought to be

labour market
o Value-based judgments
Classical and neo-classical labour
market theory

Classical Labour Market Theory

Core Assumptions

 Wage rate determines job attractiveness

 All vacancies are filled via the market

(not promotion)

 Employees are identical if they can do Neo-classical Labour Market Theory

the same job
 Builds on classical theory
 Full information exists about:
 Introduces:
o Jobs
o Marginal productivity theory
o Wages
 Wages determined by:
o Working conditions
o The value of the worker’s
 Employers have full knowledge of marginal output
workers
 Still assumes:
 Economic motive overrides all others
o Rational decision-making
 Labour market is competitive
o Market equilibrium

Characteristics of the Classical Labour

Market

 Labour treated as a commodity

 Wages determined by:

o Supply and demand

 No role for:

o Trade unions

o State intervention
Key criticism (important for exams):
 Unemployment seen as:
 Unrealistic assumptions
o Temporary
 Ignores:
o Voluntary
o Power imbalances

o Institutional regulation
 o Social factors o Clears the labour market

 Disequilibrium results in:

Labour market models o Unemployment

The Law of Demand and Supply o Labour shortages

Demand for Labour

 Demand is derived demand

Shifts in Demand for Labour
 Employers demand labour to produce
Demand curve shifts due to:
goods/services
 Increase in number of employers
 Inverse relationship:
 Increase in employer income
o Higher wages → lower demand
 Preference for certain skills
o Lower wages → higher demand
 Availability of alternatives to labour
(technology)
Supply of Labour
 Increase in labour costs
 Workers supply labour to earn income

 Positive relationship:

o Higher wages → more labour

supplied

o Lower wages → less labour

supplied

Market Equilibrium
Shifts in Supply of Labour
 Occurs where:
Supply curve shifts due to:
o Demand = Supply
 Oversupply or shortage of labour
 Equilibrium wage:
 Training and skill requirements
  Job attractiveness

 Risk and hardship

 Union activities

 Discriminatory practices

Law of Diminishing Returns

 Adding more labour to fixed capital:

o Initially increases productivity

o Eventually reduces marginal

productivity

 Linked to:
Elasticity of Demand and Supply
o Marginal productivity of labour
Elastic Demand

 Small wage change → large change in

demand

Inelastic Demand

 Wage change → little change in demand

Elasticity of Supply

 Depends on:

o Skill level
Application During Covid-19
o Mobility of labour
 Lockdowns reduced labour demand
o Training time required
 Business closures led to:

o Mass unemployment
  Supply shocks: o Organisational rules

o Health risks  Labour markets are segmented

o Movement restrictions

 Equilibrium disrupted Dual Labour Market Theory

 Labour market divided into:

o Primary sector (secure, high pay)

o Secondary sector (insecure, low

pay)

 Limited mobility between sectors

Human Capital Theory

Contemporary labour market
 Education and training increase
theories productivity

These theories challenge classical assumptions.  Higher productivity → higher wages

 Investment in skills benefits:

o Individual

o Economy

Institutional Labour Market Theory

 Labour markets shaped by:

o Trade unions

o Labour law

o Collective bargaining

 Rejects idea of free market labour

allocation

Internal Labour Market Theory

Labour markets I the future
 Jobs filled internally through promotion
 Increased automation and AI
 Wages determined by:
 Growth of:
  Gig work

 Platform employment

 Decline in traditional permanent jobs

 Greater emphasis on:

 Skills development

 Lifelong learning

 Increased labour market flexibility

 Risk of:

 Job insecurity

 Inequality

The SA labour market during Covid-

19

Key Impacts

 Sharp rise in unemployment

 Loss of informal sector jobs

 Reduced labour force participation

 Wage reductions and retrenchments

Structural Problems Exposed

 Skills mismatch

 Inequality

 Youth unemployment

 Weak social protection

Policy Responses

 Temporary Employer/Employee Relief

Scheme (TERS)

 Labour law flexibility

 Increased role of the state