Cheaper Automation Pushes the Wage Down

Cheaper Automation Pushes the Wage Down, step by step

1. 1

   Start in Equilibrium

   The competitive labor market begins in equilibrium where labor demand (DL = MRP) crosses labor supply (SL). The wage and the number of workers hired are set at that intersection.

2. 2

   Machines Get Cheaper

   The price of the robotic equipment that does these tasks falls sharply. Capital and labor are substitutes in this production process, so this shock lands in the market for inputs. The finished good still sells for exactly the same price as before.

3. 3

   Firms Substitute Capital for Labor

   At any given wage a firm can now do the same job more cheaply with machines, so it wants fewer workers. In the standard AP treatment the substitution effect wins over the output effect, so firms replace workers with machines and the labor demand curve shifts leftward. Notice that neither marginal product nor the output price has changed: this determinant works through the price of a substitute input.

4. 4

   New Equilibrium: Lower Wage, Fewer Workers

   Labor supply has not moved, so the market slides down along it to the new intersection. The equilibrium wage is lower and fewer workers are employed. Firms still hire until the wage equals marginal revenue product, but that point now sits at a smaller quantity of labor.

5. 5

   Name the Determinant Precisely

   The determinant here is the price of a substitute input, not anything in the output market. Consumers still want the product just as much and it still sells for the same price. Keep this separate from a fall in demand for the good itself, which lowers labor demand through the output price instead.

Where it ends up

When a substitute input becomes cheaper, firms replace workers with machines, labor demand shifts left, and both the equilibrium wage and the quantity of workers employed fall.

Now draw it yourself

Same graph, graded on whether you move the right curve and leave the rest alone.

• New Hospitals Open →
• Mine Hazard Report →
• Auto Plant Closes →

More Labor Market walkthroughs

• Output Price Rises, So Does Labor Demand →
• More Workers Enter, Wage Falls →
• Worker Training Raises Wages and Employment →
• Households Buy Less of the Product →
• A Rival Industry Bids Workers Away →