| Derived demand | A circumstance in which the demand for a good or service, such as labor, depends on the demand for the good or service that it helps to produce |
|---|---|
| Marginal physical product | The additional output that is generated by hiring one extra labor |
| Marginal revenue product | The amount that an additional unit of the factor increases a firm's overall revenue during a period, keeping the quantity of all other factors constant |
| Substitution effect | If wages increase, people will work more hours since leisure time has become more expensive |
| Income effect | If wages increase, people will work fewer hours since they can now make the same amount of money with less effort |
| Trade union | An association of employees that advocates for its members in a variety of ways, including as raising pay and salary and enhancing working conditions |
| Collective bargaining | A process in which a trade union, which represents a group of workers, and employers negotiate compensation and working conditions. |
| Monopsonist | A sole buyer, in the case of labour |
| Transfer earnings | The amount that a factor of production must be paid in order to prevent it from transferring to an alternate use |
| Economic rent | The extra amount earned by a resource by virtue of its present use, or the amount earned above transfer price |
A firm needs more labor to increase output in the short run. A firm seeks to generate the quantity of output that maximizes profit i.e., a point where MC=MR. To produce this output, a firm must employ the quantity of labor that will yield maximum profit, which may be determined by comparing the marginal revenue generated from hiring one additional person with the marginal cost of that worker.
The additional output that is generated by hiring one extra labor is called the marginal physical product (MP or MPL). Keeping the quantity of all other factors constant, the change in total revenue resulted from hiring one extra employee is called marginal revenue product (MR). The marginal revenue product of a factor (MRP) is the amount that an additional unit of the factor increases a firm's overall revenue during a period. Therefore, MRP = MP X MR. In a labor market that is perfectly competitive, where firms are price takers, P=MR. Consequently, under a perfect competition, firms would have MRP = MP X P.
The MRP calculation for a car wash company that is perfectly competitive is shown in the table below.