Explain how factor price is determined when there is perfect competition in the product market and monopsony in the factor market.
Answers
Step-by-step explanation:
The general condition for the firm’ equilibrium also applies to this case. The firm will be in equilibrium when MRP is equal to MFC and MRP curve cuts MFC curve from above. But here there is an important difference. Under monopsony in the factor market MFC and AFC (or PF) will not be equal, the former being greater than the latter. MFC curve lies above the AFC curve. Therefore, in equilibrium when MRP is equal to MFC, it is greater than the AFC, that is, price of the factor.
The equilibrium of the firm under monopsony in a factor market assuming perfect competition in the product market is presented in fig. 32.17. The firm is in equilibrium at point E (or at ON level of employment) where MRP- MFC. But the AFC at ON level of employment is NF.
In other words, the factor is being paid NF (or OP) price, while its marginal revenue product is NE. The difference EF between the marginal revenue product (NE) and the price paid to the factor of production (NF) is called monopsonistic exploitation of factor because this has arisen due to the monopsony in the factor market.