The Market for Work
The labor market is a market like any other — with people on the supply side and firms on the demand side, and a price called the wage.
Labor demand comes from firms and slopes downward: at high wages only the most productive uses of labor pay for themselves. It is a derived demand — firms want workers only because customers want products. A firm hires up to the point where the last worker's contribution (marginal product) is worth their wage.
Labor supply comes from households and generally slopes upward: higher wages draw more people into work and more hours from them.
Where the curves cross, the equilibrium wage clears the market. Wages differ across jobs for systematic reasons: skills that are scarce (surgeons), conditions that repel (night shifts pay a compensating differential), and human capital that took years to build.
The three unemployments:
- Frictional: the search time between jobs — normal, even healthy, in a moving economy.
- Structural: skills or locations no longer match what employers need — the coal miner facing a software economy. The painful, persistent kind.
- Cyclical: the recession kind — demand collapses everywhere at once, and returns with recovery.
A minimum wage set above equilibrium raises pay for those who keep jobs but can price the least experienced out of them: supply of hours rises, demand falls, and the gap is measured unemployment. Its net effect is one of economics' longest-running empirical battles — the answer depends on how far above equilibrium it sits.
Why wages differ systematically
| Reason | Example |
|---|---|
| Scarce skills | Surgeons, senior engineers |
| Compensating differentials | Night shifts, dangerous work pay extra |
| Human capital | Years of training must pay back |
Tip: Labor demand is derived demand — firms hire because customers buy. When you forecast employment in a sector, look first at the demand for its products, not at the workers.