Factor Market (economics)

Factor Market (economics)

In economics a factor market refers to markets where services of the factors of production (not the actual factors of production) are bought and sold such as the labor markets, the capital market, the market for raw materials, and the market for management or entrepreneurial resources.

Firms buy productive resources in return for making factor payments at factor prices. The interaction between product and factor markets involves the principle of derived demand. Derived demand refers to the demand for productive resources, which is derived from the demand for final goods and services or output. For example, if consumers demand for new cars rose, producers will respond by increasing their demand for the productive inputs or resources used to produce new cars.

Production is the transformation of inputs into final products. Firms obtain the inputs or factors of production in the factors markets. The goods are sold in the products markets. In most respects these markets are the same. Price is determined by the interaction of supply and demand, firm's attempt to maximize profits, factors can influence and change the equilibrium price and quantities bought and sold and the laws of supply and demand hold.

Market price and can "purchase" as many inputs as they need at the market rate. Because labor is the most important factor of production this article will focus on the competitive labor market, although the analysis applies to all competitive factor markets.