Problem Set 6. Unions and the Labor Market
1. Some collective bargaining agreements contain “union standards” clauses that prohibit the employer
from farming out work normally done in the plant to other firms that pay less than the union wage.
a. What is the union’s rationale for seeking a union standards clause?
b. Under what conditions will a union standards clause most likely be sought by a labor union?
Answer: a. The union’s goal for seeking the union standards clause is to remove incentives for the
employer to substitute cheaper nonunion labor for more expensive union labor.
b. The ultimate goal of the union, of course, is to raise wages while preserving employment
(or at least not having to undergo large employment declines). A union standards clause
will be more attractive to a union when the firm can more easily substitute outside factors
of production for those it employs and when these substitution effects are large.
Analogously, the union standards clause will be more successful in preserving employment
of union members if the firm finds it more difficult or expensive to substitute capital
for labor within the firm. Likewise, if the supply of capital to the firm is relatively
inelastic, any tendency to substitute capital for labor will be met with a rising price of
capital, which will mitigate the amount of capital/labor substitution that might otherwise
accompany a union standards clause. Moreover, a union standards clause will be more
successful in preserving employment, and therefore more sought after, if the product
demand curve is relatively inelastic (so that scale effects are small).
2. It has been observed that unions in the capitalintensive steel industry were able to negotiate higher
thanaverage wage increases during the very period in which steel output in the United States was
declining. Using economic theory, how can this pattern be explained?
Answer: When output is contracting, one would think that the shrinking demand for workers
(owing to the scale effect) would reduce a union’s ability to negotiate wage increases
without harming job opportunities for its members. However, when output is contracting,
employers are not adding to their capital stock or opening new plants, so technological
improvements that substitute capital for labor are not easily made. The reduced ability to
substitute capital for labor serves to strengthen the union’s hand, because even if wages
rise the substitution of capital for labor may not take place.
3. American unions often try to win public support for boycotting goods made in less developed countries
by workers who work very long hours at low pay in unhealthy working conditions. (a) If successful,
Answer: a. If manufacturers in these less developed countries are induced to raise wages and
improve working conditions, output price will tend to rise and only those consumers
willing to pay the higher prices will remain in the market. Boycotting goods made by
workers in “sweatshop” conditions, then, tends to reduce demand (because of both
scale and substitution effects) for the services of lowwage labor, and these workers
may end up losing their manufacturing jobs and having to go back to farming or some
other job they previously felt was inferior, given their preferences and opportunities.
b. If manufactured items from abroad become more expensive, we would expect that
consumers would tend to substitute American goods (now relatively cheaper) for
foreignmade goods. Thus, foreign and American workers may be considered substitutes
in production, and if this substitution effect is dominant, they will be gross substitutes.
If so, when the costs of foreign labor rise, the demand for American labor may rise.
However, we must also consider the scale effects associated with higher costs overseas.
Some American workers may have jobs (in packaging, selling, distributing) that depend
on the scale of output produced both in the United States and abroad. Clearly, the scale
of output will fall owing to the boycott, and the costs of producing the items in
question will rise; some workers, therefore, may be gross complements with foreign
workers, and these workers will be worse off if the boycott lasts and is successful.
Answer:Union power to raise wages is affected by the elasticity of demand for its workers;
where elasticity is higher, given wage increases will result in greater loss of employment. A
national union may perceive the product demand (and hence labor demand) of employers
to be relatively inelastic, because if it is able to raise wages in all sectors, consumers have
limited incentives for substituting goods from one sector for goods from another. All
employers will face higher wages and higher costs—and thus have higher prices—although
the degree to which their output prices will rise depends on the share of labor in total cost
and their ability to substitute for labor in the production process. When bargaining is very
decentralized, however, the unions involved in wage setting will perceive the output demand
elasticity to be relatively elastic, and they may moderate their demands as a result. Thus, at
a broad level of analysis, we might expect wage increases to be larger, and employment
losses to be larger, with centralized bargaining. At a more disaggregated level, however,
we would expect that local unions facing labor demand elasticities that are lower than the
national aggregate to bargain for greater wage increases than they got under centralized
bargaining, while those with elasticities less than the national aggregate would bargain for
less. Thus, wage increases will be greater than what they would have been under
centralized bargaining in some sectors, and less in other. Overall, a greater ability to tailor
local demands to local elasticities should result in a reduced level of job loss associated
with unionization.
5. The Brain Surgeon’s Brotherhood faces an ownwage elasticity of demand for its labor that
equals –0.1. The Dog Catcher’s International faces an ownwage elasticity of demand for its labor
that equals –3.0. Suppose that leaders in both unions push for a 20% wage increase, but have no
power to directly set employment levels. Why might members of the Dog Catcher’s International
be more wary of the targeted wage increase?
Answer: Ownwage elasticity of demand %(quantity demanded)/%(wage). In the case of the
Dog Catchers this implies 3 %(quantity demanded)/20%, thus employment will fall
by 60% if they boost wages by 20%. In the case of the Brain Surgeons this implies
0.1 %(quantity demanded)/20%; thus employment will fall by only 2% if they
boost wages by 20%.
6. The following table gives the demand for labor in two different firms.
$3 24 28
4 23 26
5 22 24
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86 Ehrenberg/Smith • Modern Labor Economics: Theory and Public Policy, Twelfth Edition
6 21 22
7 20 20
8 19 18
9 18 16
10 17 14
The current wage rate in both firms is $7 per hour. A union would like to organize employees in one
of the firms and bargain to raise the wage rate to $8 per hour. Calculate the wage elasticity of demand
for each firm if the wage rate were increased from $7 per hour to $8 per hour. Which firm would the
union be more interested in organizing? Why?
Answer: If the union successfully raised the wage rate to $8 per hour, the demand for employment
at Firm ABC would decrease to 19 employees and the demand for employment at Firm
XYZ would decrease to 18 employees. The decrease is greater at Firm XYZ because the
demand for labor is more wageelastic.
Firm ABC:
Wage elasticity of demand %Ed /%W [(19 20)/20]/[(8 7)/7] 0.05/0.14 0.36.
Firm XYZ:
Wage elasticity of demand %Ed /%W [(18 20)/20]/[(8 7)/7] 0.10/0.14 0.71.
7. There are two sectors of the construction industry that currently pay their employees the market
clearing wage. The demand for labor in each sector is MRP L 12 L, where L the number
(in thousands) of workers. The supply of labor in each sector is L W 2, where W wage rate
(dollars per hour).
A union organizes in one of the sectors, and it restricts supply to that sector by insisting that only
those in the union are hired by firms in that sector (and it is difficult to get into the union). When the
employees in this sector unionize, the supply of labor in that sector changes to L W 4.
a. What is the wage rate in both sectors before unionization? How many employees will be hired
in each sector?
b. What is the wage rate in the unionized sector? How many employees will be hired in the
unionized sector?
c. If the unemployed workers in the newly unionized sector spill over into the nonunion sector, what
will be the wage rate in the nonunion sector? How many employees will be hired in that sector?
d. What is the union relative wage advantage? What is the true absolute effect?
Answer: a. A profitmaximizing firm will hire labor until MRPL W. MRPL 12 – L, and the
supply equation (L W – 2) implies that W L 2. Thus, 12 – L L 2, and L 5.
Substitute L 5 into either the demand or supply equation and W 7 (the wage is $7
per hour before unionization). 5,000 workers are employed at a wage of $7.
b. After unionization, L W – 4, or W L 4. Maximization of profits implies that
12 – L L 4, or L 4. If 4 (thousand) workers are employed, the wage will be
$8 per hour.
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Chapter 13 Unions and the Labor Market 87
c. If the 1,000 workers who lose jobs in the union sector spill over into the nonunion
sector, the supply curve there will shift to L (W – 2) 1 W – 1. Profit maximization
in the nonunion sector implies that 12 – L L 1, and L rises to 5.5 (5,500).
If 5.5 (thousand) workers are employed, the equilibrating wage is $6.50. Wages in
the nonunion sector fall to $6.50 and employment rises to 5,500.
d. The relative wage advantage is (union wage–nonunion wage)/nonunion wage, or
(8.00 – 6.50)/6.50 0.23 (23%). The absolute wage advantage is (union wage–market
wage)/market wage (8 – 7)/7 0.14 (14%).
i. The wage rate in each sector is $7 per hour and 5,000 workers are employed.
ii. In the unionized sector, the wage rate is now $8 per hour and 4,000 workers will
be hired in that sector.
iii. There is an excess supply of 2,000 workers in the unionized sector. If these workers
spill over to the nonunionized sector, the supply of labor in the nonunionized
sector will increase. The wage rate in this sector will decrease to $6 per hour and
6,000 workers will be hired.
iv. The union relative wage advantage is R (8 – 6.0)/6.0 .333.
The true absolute effect is A (8 – 7)/7 0.14.
8. On January 1, 2008, Germany officially ended the monopoly of Deutsche Post to make letter
deliveries. Assuming most German workers are represented by unions that bargain with individual
firms, analyze how the decision to end Deutsche Post’s monopoly in the postal delivery industry is
likely to affect wages and union power in the German postal industry.
Answer: Ending the monopoly on postal deliveries will tend to make the product demand curve more
elastic in the postal industry (because competitors are allowed), which will make the demand
curve for labor in the industry more elastic. A more elastic labor demand curve weakens
the power of unions to raise wages, because increased wages will be accompanied by
greater loss of employment. We also saw in Chapter 3 that monopolies—which can afford
not to maximize profit—may pay their workers higherthanmarket wages. We would
therefore expect wages in the postal industry to fall.
9. In late 2007, the Canadian government charged the major chocolate bar manufacturing companies
with price fixing. The charges allege that the companies met secretly to set prices above the level
that would have prevailed if they had competed. Use economic theory to analyze the effects on the
demand for labor that are associated with price fixing, and analyze how the end of price fixing will
affect union wages in an industry.
Answer: By eliminating competition in the product market, price fixing reduces the elasticity of
product demand, thereby reducing the elasticity of the labor demand curve. Thus, if
workers were represented by a union bargaining for higher wages, the existence of price
fixing would mean greater union power, because the employment loss associated with the
higher wages would be smaller than if the companies were competing. When price fixing
ends, union power is reduced and union wages will probably fall.