Marginal Revenue Product vs Marginal Resource Cost
Marginal Revenue Product and Marginal Resource Cost are two Factor Markets concepts in AP Economics that students often mix up. Marginal Revenue Product (MRP) is the additional revenue a firm earns by employing one more unit of a factor of production. Marginal Resource Cost (MRC) is the additional cost a firm incurs by employing one more unit of a factor of production. Here is how they compare side by side.
MRP is calculated by multiplying the marginal product of a factor (the extra output from one more unit) by the marginal revenue from selling that output. Firms will hire a factor up to the point where its MRP equals its marginal resource cost (MRC); in a perfectly competitive factor market, MRC equals the factor's price. MRP is the firm's demand curve for a factor.
MRC is the change in total cost from hiring one more unit of a factor, such as labor. It includes all additional costs, not just the factor's price. Firms hire a factor up to the point where its MRP equals its MRC. In a perfectly competitive factor market the firm faces a horizontal factor supply curve and MRC equals the market price; under monopsony, MRC lies above the upward-sloping supply curve.
Marginal Revenue Product vs Marginal Resource Cost: The Two Halves of the Hiring Rule
| Marginal Revenue Product | Marginal Resource Cost | |
|---|---|---|
| Which side of the factor market | The firm's demand for the input, derived from demand for the product | The cost of the input, set by the labor supply the firm faces |
| What it collapses to in the simple case | Marginal product times price, but only for a perfectly competitive seller | The market wage, but only in a perfectly competitive labor market |
| Why it moves as hiring rises | Falls because marginal product falls, and falls faster for a price searcher because marginal revenue falls too | Constant for a wage taker, rising and above the wage for a monopsonist |
| Curve it becomes on the labor diagram | The firm's labor demand curve | A horizontal line at the wage, or a curve above labor supply under monopsony |
| Effect of a rise in the product's price | Rises at every quantity, shifting labor demand to the right | Unchanged, since the price of the output does not touch the labor supply the firm faces |
| Units | Dollars of extra revenue per extra worker | Dollars of extra cost per extra worker |
Both are dollars per worker, which is what makes the hiring rule a single comparison
A firm hires while the next worker brings in more than that worker costs. Put numbers on it. A perfectly competitive seller charges $5 per unit and the fourth worker raises output by 12 units, so marginal revenue product is $60. If the firm is a wage taker paying $45, marginal resource cost is $45, and that fourth worker adds $15 of profit. Hiring continues until the two figures meet. Suppose the fifth worker adds 9 units for $45 of marginal revenue product and the sixth adds 6 units for $30. The firm stops at five workers, where marginal revenue product equals the $45 marginal resource cost. The comparison works only because both quantities are measured the same way, in dollars per additional worker. Marginal product on its own is measured in units of output and cannot be set against a wage, which is why the exam insists on converting product into revenue before any hiring decision gets made.
Under monopsony marginal resource cost pulls away from the wage
In a competitive labor market the firm hires as many workers as it wants at the going wage, so marginal resource cost is simply that wage and the two terms look interchangeable. A monopsonist is the only buyer of labor, faces the upward sloping market supply curve, and has to raise the wage for everyone in order to attract one more worker. Suppose three workers are willing to work at $30 each, for a total labor cost of $90. Attracting a fourth takes $36, and the firm must pay $36 to all four, for a total of $144. The fourth worker's marginal resource cost is $54, half again the wage that worker actually receives, because the extra $6 also goes to the three already employed. The monopsonist hires where marginal revenue product equals that $54, then reads the wage down on the supply curve at $36. Employment and pay both land below the competitive outcome, and any answer that treats marginal resource cost as the wage misses the entire model.
Marginal revenue product is not price times marginal product for a price searcher
The formula is marginal product multiplied by marginal revenue. For a perfectly competitive seller marginal revenue equals price, so multiplying marginal product by price is a safe shortcut. For a monopolist, or any firm facing a downward sloping demand curve, marginal revenue sits below price, and the shortcut overstates what the worker is worth. Take a firm whose next worker adds 12 units while price is $5 and marginal revenue is $4. The correct marginal revenue product is $48, not $60. If the wage is $50, the shortcut says hire and the correct calculation says do not. Two forces then push labor demand down as hiring expands: marginal product falls under diminishing returns, and marginal revenue falls as output grows along the demand curve. That double effect makes an imperfectly competitive seller's labor demand curve steeper than a competitive seller's, and it is a favorite distractor on hiring questions.
Frequently asked questions
Does marginal resource cost always equal the wage?
Marginal resource cost equals the wage only when the firm can hire any number of workers at the going rate, which describes a perfectly competitive labor market. A monopsonist has to raise pay for everyone to attract one more worker, so marginal resource cost rises above the wage. Paying $30 to three workers and then $36 to four makes the fourth worker cost $54, since the extra $6 goes to the three already employed as well as to the newcomer.
How many workers should a firm hire?
A firm hires up to the point where marginal revenue product equals marginal resource cost. Every worker before that point brings in more revenue than they cost and raises profit, and every worker past it costs more than they bring in. With a wage of $45 and successive workers whose marginal revenue products run $60, $45, and $30, the firm takes the first two and stops, because the third would add $30 of revenue for $45 of cost.
What is the difference between marginal product and marginal revenue product?
Marginal product counts extra output in physical units, while marginal revenue product converts that output into dollars by multiplying by marginal revenue. A worker who adds 12 units has a marginal product of 12, and if marginal revenue is $5 the marginal revenue product is $60. Only the dollar figure can be compared with a wage or with marginal resource cost, so that conversion is the step that turns a production table into a hiring decision.
Live Factor Markets graph. Drag the curves, or open the full version.
Related comparisons
Get AP Econ exam tips in your inbox
Occasional emails with study tips, new interactive graphs, and exam-season reminders. Free, no spam.
No spam. Unsubscribe anytime. Read our privacy policy.
Keep track of what you have studied
A free EconLearn account adds progress tracking, your quiz history, and achievements. Studying here is free either way, and there is nothing to pay for as a student.
Create a free accountAlready have one? Sign in
Last updated