IGCSE Economics 0455: Wages versus Profit for an Employee and a Self-Employed Worker

Daniel and his cousin Michael both repair bicycles. Daniel works fixed hours at CityCycle Repairs, a shop owned by someone else, and is paid a set hourly amount by the shop owner no matter how many bicycles he repairs that day. Michael is self-employed: he repairs bicycles from a stall he rents in the market, keeps all of the money customers pay him, but must cover his own costs (the stall rental and spare parts) out of that money. In a quiet week with few customers, Michael sometimes earns very little once his costs are paid.

(a) Identify the factor of production that Daniel supplies to CityCycle Repairs, and state the reward he receives for it. [2]

(b) Explain why Michael's income is classified as profit rather than wages, even though he is also carrying out physical repair work like Daniel. [3]

Part (a): Daniel’s factor of production and its reward

Daniel supplies labour, his physical effort and time repairing bicycles for CityCycle Repairs. In return, he receives a wage: a set hourly amount agreed with the shop owner in advance, which he is paid regardless of how many bicycles he happens to repair that day.

Part (b): Why Michael’s income is profit, not wages

Michael also does physical repair work, just like Daniel, but the type of work he does is not what determines his reward. The role he plays in the business is. Michael is not employed by anyone else and is not paid a fixed hourly amount. Instead, he:

organises his own stall, deciding how to run it and what to charge, and
bears the risk that, after paying his own costs (the stall rental and spare parts), what is left over might be very small in a quiet week.

Because Michael receives whatever is left over from his revenue once his costs are covered, rather than a reward fixed in advance, his income is classified as profit, the reward to enterprise, even though the physical task he performs looks similar to Daniel’s.

Part (c): Why Michael’s income varies more than Daniel’s

Michael’s income is a residual: it equals the money customers pay him minus his costs, and both of these can change from week to week depending on how many customers arrive. In a quiet week, his revenue may barely cover his costs, so his income falls sharply. Daniel’s income, by contrast, is a wage that has already been agreed with the shop owner for the hours he works; it does not change simply because the shop had fewer customers that week. Because Michael’s reward depends on fluctuating business performance while Daniel’s does not, Michael’s weekly income is likely to vary far more than Daniel’s.

Final answers

(a) Daniel supplies labour; his reward is a wage.
(b) Michael’s income is profit, because he organises his own stall and bears the risk of low income once costs are paid, rather than receiving a reward fixed in advance like an employee.
(c) Michael’s income varies more because it is a residual (revenue minus costs) that depends on how many customers arrive, whereas Daniel’s wage is fixed in advance regardless of how busy the shop is.