Supply of labour

The supply of labour refers to the total number of hours that labour is able and willing to supply at a particular wage rate.

The more work a person does, the greater his or her income, but the smaller the amount of leisure time available. An individual who chooses more leisure time will earn less income than would otherwise be possible. The more leisure people demand, the less labour they supply.

Labour supply curves are derived from the 'labour-leisure' trade-off. More hours worked earn higher incomes but necessitate a cut in the amount of leisure that workers enjoy. Consequently there are two effects on the amount of desired labour supplied due to a change in the real wage rate. As, for example, the real wage rate rises the opportunity cost of leisure increases. This tends to cause workers to supply more labour (the "substitution effect"). However, as the real wage rate rises, workers earn a higher income for a given number of hours. If leisure is a normal good - the demand for it increases as income increases - this increase in income will tend to cause workers to supply less labour (the "income effect"). If the "substitution effect" is stronger than the "income effect" then the labour supply curve will be upward sloping and vice versa.

Wage Changes and the Slope of the Supply Curve

What would any one individual’s supply curve for labour look like?

One possibility is that over some range of labour hours supplied, the substitution effect will dominate. Because the marginal utility of leisure is relatively low when little labour is supplied (that is, when most time is devoted to leisure), it takes only a small increase in wages to induce the individual to substitute more labour for less leisure. Further, because few hours are worked, the income effect of those wage changes will be small.

 “A Backward-Bending Supply Curve for Labour” shows Meredith Wilson’s supply curve for labour. At a wage of $10 per hour, she supplies 42 hours of work per week (point A). An increase in her wage to $15 per hour boosts her quantity supplied to 48 hours per week (point B). The substitution effect thus dominates the income effect of a higher wage.

 As the wage rate increases from $10 to $15 per hour, the quantity of labour Meredith Wilson supplies increases from 42 to 48 hours per week. Between points A and B, the positive substitution effect of the wage increase outweighs the negative income effect.

As the wage rises above $15, the negative income effect just offsets the substitution effect, and Ms. Wilson’s supply curve becomes a vertical line between points B and C. As the wage rises above $20, the income effect becomes stronger than the substitution effect, and the supply curve bends backward between points C and D.