Derive the labour demand and labour supply curves. Explain the relationship of labour with output in the short run as per classical view.

Derivation of Labor Demand and Supply Curves

In classical economics, the labor market is analyzed through the labor demand and supply curves, which determine the equilibrium wage and employment level.

1. Labor Demand Curve

The labor demand curve is derived from the marginal productivity of labor. It is downward sloping, indicating that as wages decrease, firms are willing to hire more labor.

• Marginal Productivity: Firms hire additional labor as long as the marginal product of labor (additional output produced by an additional unit of labor) exceeds the marginal cost of hiring (wage rate).
• Diminishing Returns: Due to the law of diminishing returns, each additional worker contributes less to output than the previous one, leading to a lower willingness to pay for additional labor.

2. Labor Supply Curve

The labor supply curve is typically upward sloping, reflecting that as wages increase, more individuals are willing to work or offer more hours of labor.

• Income vs. Substitution Effect: Higher wages make work more attractive (substitution effect) but also allow individuals to earn the same income in fewer hours (income effect). The substitution effect usually dominates, leading to an increased labor supply at higher wages.

3. Short-Run Relationship of Labor with Output: Classical View

In the classical view, the short-run relationship between labor and output is characterized by the production function and the concept of diminishing marginal returns.

• Production Function: Output is a function of labor and other inputs. In the short run, some inputs (like capital) are fixed, and output varies with the amount of labor employed.
• Diminishing Marginal Returns: As more labor is employed with a fixed amount of capital, each additional worker contributes less to output. This diminishing marginal productivity of labor is why the labor demand curve is downward sloping.

Conclusion

In classical economics, the labor demand curve is derived from the diminishing marginal productivity of labor, while the labor supply curve is based on worker responses to wage changes. The interaction of these curves determines the equilibrium wage and employment level. In the short run, the relationship between labor and output is governed by the law of diminishing marginal returns, where additional labor contributes less to output when other factors are held constant.