Labor Market Analysis: Neoclassic Economic Perspective

Subject: Economics
Pages: 4
Words: 948
Reading time:
4 min

Labor Market Analysis refers to the process of surve of different aspects of the labor market in order to identify different trends in the market like the availability of work opportunities, prevailing salary and wage rates as well as the availability of people possessing the necessary skills and knowledge to offer required services. Different theories have been fronted as to how these aspects are determined in the labor market. They include the neoclassical and the heterodox schools..

The neoclassical perspective to labor market analysis suggests that the labor market shares similar characteristics with other markets such that the price/cost of labor as well as its supply is dependent on the market forces of supply and demand. The cost of labor is measured in terms of wage rate. The supply of labor in this case refers to those people who are willing and able to work while the demand for labor is determined by the needs of those entities seeking to acquire the services of the people. This theory depends on the marginal productivity of labor and maximization principles. That is the demand for labor is dependent on the maximum gains the employer seeks to acquire from employing a certain number of employees and the additional benefits he would acquire should he employ an additional unit of labor as well as the utility derived by individuals fro working. The approach suggests that the demand curve for labor is downward sloping while the supply curve is upward sloping. If the wage rate increases in the short run, the marginal productivity of labor to the employer is not as much and therefore he would demand less of the labor leading to a situation of unemployment.

In the long run, the situation is different in that the demand for labor is more dependent on capital supply since the two go hand in hand and therefore the employer would opt to work in a situation that allows him to maximize his profit and thus he will base his demand for labor at the level which allows him to maximize his profits. This theory has been criticized on various levels the first of which is labor markets cannot be gauged on the same basis as other markets since it operates on a different level. Due to this, critics say that the forces of supply and demand cannot be the only determinants of labor in the market. This argument is based on the premise that labor, unlike goods, cannot be manufactured. In a goods market, when prices go up, the long run effect would be an increase in the production of these goods in order to meet the demand. The supply of labor depends on people and since people can only allocate a certain amount of their time to work, the labor market cannot operate like other markets as more people cannot be created to cater for an increase in the demand for labor.

The marginal productivity of labor theory was also subjected to criticism as it was argued that it is not possible to isolate one factor of production and determine its marginal product alone. This is because the production process is comprised of a series of processes which require the interaction of various factors of production. The theory also relied on assumptions similar to those of the classical approach which were found to be flawed. Some of these assumptions included the availability of perfect information in the labor market, perfect competition and it also failed to recognize the human aspect of the labor market. These assumptions were rejected on the basis that they were shallow and unrealistic.

The Labor market analysis based on the neo classical approach differs from the heterodox approaches in that the second category recognizes some of the factors that the neo classical approach failed to take into account. This approach recognizes the human aspect of labor in its analysis. The supply of labor is affected by the human aspect since it depends on the number of hours individuals allocate to their work and those that are located to other things. Due to this fact there occurs a trade off between hours allocated to work and those allocated for leisure. As we have seen before an increase in the level of employee wages elicits a certain effect on the employees behavior and depending on the strength of the substitution and income effect, the employees decide on how they will allocate their time between work and leisure.

Heterodox economists also recognize the fact that the labor market is not like other markets. These other markets have the ability to clear in that there will be no surplus supply or excess demand. The labor market never clears because there is always the issue of unemployment. These economists have also veered away from the assumptions of the neo classical economists such as the availability of perfect information and perfect competition. These assumptions cannot hold in a real labor market situation. These economists also depart from the neo classical approach which does not give a complete analysis of the labor market thereby leaving a majority of the market’s policy issues unaccounted for. According to Ashenfelter& Layard, while the neo classical approach focuses on the maximizing behavior of individuals and firms it ignores changes in individuals and institutional frameworks of the labor market. The SLM labor analysis as fronted by a number of heterodox economists focuses on these institutional frame works and their constraints thereby basing their analysis on a number of factors existing in the labor market, which debases the neo classical equilibrium analysis.