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Microeconomics: competitive factor markets and monopsony

Perfectly-competitive factor markets:

  • A competitive factor market is a market in which a large amount of firms are looking to hire similar workers. Due to the numerous firms in the market, each firm's hiring decision does not influence the market wage rate. These firms are referred to as wage-takers.
  • The market wage (w) is determined by the equilibrium of the supply and demand curve for labor (see the graph below). The market labor demand is the summation of all the firms' MRP's at each quantity, and the market supply curve is determined by the workers' willingness to provide more labor at higher wage rates. 
  • For a competitive firm, the market wage is the firm's marginal factor cost (MFC) and the supply curve (S) it faces. Supply equals marginal factor cost because wage is constant. The firm hires the quantity that is equal to the intersection between its MRP and w.




Monospony in the factor market:

  • A monospony occurs when there is only a single buyer in a market.
  • If there is a monospony in a factor market, this means that there is a single employer for labor or capital. If a town has one large factory that employs unskilled worker, this is a good approximation for a monopsony.
  • In a monopsony, the marginal factor cost is different from the labor supply curve. The marginal cost is increasing at a faster rate.
  • The result of a monopsony in a factor market is a lower price for the factors of production and a smaller quantity of factors used.

  • You can see that compared with the competitive market in the first graph, the wage set by the monopsony (w') is smaller than the wage rate in a competitive market (w). Furthermore the quantity of factors used is also smaller.
Reference: Mayer,David. AP Microeconomics Crash Course. Research & Education Association (2014). p 128-131.


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