Labor Market

Classical Political Economy

The contemporary economic analysis of labor markets can be traced back to the intellectual father of the modern capitalist system, Adam Smith. Published in 1776, the same year as the U.S. Declaration of Independence, Chapter 10 of Smith's Wealth of Nations, entitled “Of Wages and Profit in the Different Employments of Labour and Stock,” remains a seminal contribution to the neoclassical construction of knowledge pertaining to the functioning of labor markets.

Women constitute a high percentage of those facing poverty and also can encounter discrimination when seeking employment.

A major component of labor economics attempts to understand why certain professions are paid more than others. For example, why are some bankers better paid than university professors, who endure much longer and harder training? To answer similar questions facing 18th-century industrial Europe, Smith developed his theory of equalizing differences, encapsulated by the quote: “The whole of the advantages and disadvantages of the different employments of labor and stock must, in the same neighborhood, be either perfectly equal or continually tending to equality.”

Hence if two jobs share similar characteristics in terms of advantages and disadvantages, we would expect them to be paid equally. If not, as Smith states, “Every man's interest would prompt him to seek the advantageous, and to shun the disadvantageous employment.” As noted by economist Alan B. Krueger in his introduction to Smith's Wealth of Nations, Smith's theory of equalizing differences has become the fundamental equilibrium concept of modern labor economics, encapsulating the theory of compensating differentials for work amenities and the theory of human capital accumulation. Smith proposes five principal circumstances that contribute to the “natural” tendency of the market to equalize differences.

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