Understanding Shifts in Labor Supply and Labor Demand

Lesson Transcript
Instructor: Aaron Hill

Aaron has worked in the financial industry for 14 years and has Accounting & Economics degree and masters in Business Administration. He is an accredited wealth manager.

Labor supply and demand are important concepts of the economy and the labor market. Understand what may affect shifts in these factors - such as changes in income, the price of goods and raw materials, and consumer preferences - and what they mean. Updated: 08/22/2021

Labor Supply and What a Shift Means

Your ability to get a job, the rate of pay at which you are willing to work, and how many hours a week you want to work all have an effect on the labor supply or labor demand in an economy. Each individual's preferences and the unique needs of firms and companies across a country determine these important economic concepts. Let's explore both labor supply and labor demand in more detail.

In simple terms, labor supply is the total hours that workers or employees are willing to work at a given wage rate. It is often represented on a graph through a labor supply curve, which shows wage rates plotted vertically and the amount of labor or number of individuals that are willing to work at the wage rate plotted horizontally. A typical labor supply curve is upward-sloping, which means that as wages rise, workers are usually attracted and incented to work more hours.

There are several things that can cause the labor supply to shift on a graph to the right or to the left. A shift outward to the right means that workers are more willing to work a certain number of hours at a given wage rate than they were before; a shift inward to the left means that they are less willing. Let's explore a few of these factors that cause labor supply to change.

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Shift Factors of Labor Supply

Changes in Preferences or Income

As people have increases in their income, they naturally want to enjoy more leisure time. Their demand for leisure (going on vacation, taking time off to do things around the house, or simply not working) increases, reducing the supply of labor and shifting the curve to the left. For example, an individual who inherited $250,000 might not feel the same way about their $10/hour job as they did before. Conversely, if they decide they need more money because they want to buy more goods or services, the supply curve is likely to shift outward to the right.

Changes in Population

As the population increases, the supply of labor increases, or shifts to the right. There are now more people who are willing to work at each wage level. On the other hand, if a country enacts tougher immigration laws that result in lower overall population, that may cause a shift of the labor supply curve to the left because of the smaller pool of workers.

Changes in the Prices of Related Goods and Services

There are many goods and services that are linked or closely tied with how much people decide to work. For example, if the cost of sending children to daycare increases, it becomes more expensive for parents to work, and the supply of labor will shift to the left or decrease. If childcare prices fall, it becomes cheaper for each spouse to go to work, and the supply of labor will shift outward to the right. Additionally, if the cost of vacations or other recreational activities increases, individuals will consume less leisure and as result supply more labor, shifting the curve to the right.

Changes in Expectations

How long people expect to live, overall health expectations, and expectations about social security or retirement may affect the overall supply of labor. If people expect to live longer, they may work more, causing an outward shift. Likewise, if people believe that they will not have social security income, they may work more, causing an increase in the labor supply and shift to the right.

Labor Demand and What a Shift Means

Now let's explore labor demand. Firms need workers to make products, package them, sell them, and run many other aspects of their business. People don't work for free, so firms must enter into the labor market and purchase labor. Labor demand refers to the total number of worker hours that firms are willing to incur at given wage levels.

Several factors can influence or cause shifts in the demand for labor. When demand for labor shifts, firms are now willing to pay more for an hour of labor (shift to the right) or less for an hour of labor (shift to the left). As a general rule, firms will hire additional workers as long as the additional revenue they get from doing so covers the additional cost. Let's look at a few variables that can cause shifts in the labor demand.

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