Question 1: Over recent decades in the U.S. economy there have been a set of changes that, together, have reduced worker bargaining power (reduced ‘z’). These changes include declining unionization rates and a declining inflation-adjusted minimum wage. (15 points)
a. Use the baseline version of the labor market model (i.e. in which the markup depends only on the degree of competition between firms and not on relative bargaining power) to graphically analyze the effect of these changes in labor market institutions on the natural rate of unemployment and real wages. Because our labor market model is based on the relative bargaining power of workers and employers, a reasonable extension of our model also allows the mark-up to change when bargaining power changes. b. If the mark-up also depends on bargaining power, does the mark-up increase or decrease when worker bargaining power falls? Why?
c. In this case, show the effect of declining unionization rates using the graphical labor market model. What happens to real wages and unemployment? Explain briefly.
d. Compare your answers to (a) and (c). Which version of the model do you find more convincing and why? (Explain in 1-2 sentences).