Factor Markets Cheat Sheet

The core ideas of Factor Markets distilled into a single, scannable reference — perfect for review or quick lookup.

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Quick Reference

Derived Demand

The demand for a factor of production that arises from (is derived from) the demand for the final product it helps produce. If demand for the product increases, demand for the factors used to produce it also increases.

Marginal Revenue Product (MRP)

The additional revenue a firm earns from employing one more unit of a factor. Calculated as MRP = MPL x MR (or MPL x P in perfect competition). The firm's demand curve for labor is its MRP curve.

Marginal Product of Labor (MPL)

The additional output produced by hiring one more unit of labor, holding all other inputs constant. MPL initially rises due to specialization but eventually declines due to diminishing marginal returns.

Monopsony

A market structure in which there is only one buyer (employer) of a factor of production. The monopsonist faces an upward-sloping labor supply curve and hires fewer workers at a lower wage than would occur in a competitive labor market.

Marginal Factor Cost (MFC)

The additional cost of hiring one more unit of a factor. In a competitive labor market, MFC equals the wage. For a monopsonist, MFC exceeds the wage because hiring one more worker requires raising the wage for all workers.

Economic Rent

The payment to a factor of production above the minimum amount needed to keep it in its current use (above its transfer earnings). Economic rent arises when factor supply is inelastic.

Profit-Maximizing Hiring Rule

A firm maximizes profit by hiring factors up to the point where MRP = MFC. In a competitive labor market, this means hiring until MRP = wage. Hiring beyond this point means the additional cost exceeds the additional revenue.

Bilateral Monopoly

A market structure with one buyer (monopsonist) and one seller (monopoly supplier, such as a union). The wage outcome is indeterminate and depends on the relative bargaining power of each side.

Least-Cost Rule

A firm minimizes cost for a given output level by hiring factors until the marginal product per dollar is equal across all inputs: MPL/PL = MPK/PK. This ensures no reallocation of spending can produce more output.

Transfer Earnings

The minimum payment a factor must receive to remain in its current use — the opportunity cost of employing the factor. Any payment above transfer earnings is economic rent.

Key Terms at a Glance

Derived Demand:Demand for a factor of production that comes from (is derived from) the demand for the product it helps produce.

Marginal Revenue Product (MRP):Additional revenue from hiring one more unit of a factor. MRP = MPL x MR. The firm's factor demand curve.

Marginal Product of Labor (MPL):Additional output from hiring one more worker, holding other inputs constant. Declines due to diminishing marginal returns.

Value of the Marginal Product (VMP):MPL x P. Equal to MRP in perfect competition; greater than MRP under monopoly.

Marginal Factor Cost (MFC):Additional cost of hiring one more unit of a factor. Equals the wage in competitive markets; exceeds the wage for a monopsonist.

Monopsony:A market with a single buyer of a factor. Results in below-competitive wages and employment.

Economic Rent:Payment to a factor above its transfer earnings (opportunity cost). Greater when factor supply is more inelastic.

Transfer Earnings:Minimum payment needed to keep a factor in its current use. Equals the factor's opportunity cost.

Bilateral Monopoly:A market with one buyer and one seller of a factor. Wage outcome is indeterminate, depending on bargaining power.

Least-Cost Rule:Cost minimization condition: MPL/PL = MPK/PK. Equalize marginal product per dollar across all inputs.

Diminishing Marginal Returns:As additional units of a variable input are added to fixed inputs, the marginal product of the variable input eventually decreases.

Labor Union:An organization of workers that collectively bargains with employers for wages, benefits, and working conditions.

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