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In competitive labor markets, equilibrium wage equals the marginal revenue product of labor (MRPL): the additional revenue from hiring one more worker. Firms hire workers until w = MRPL; workers supply until w = reservation wage. Shifts in labor demand (from productivity or final-good demand) or supply (from preferences or population) change equilibrium wages. Wage differentials reflect differences in worker productivity, training costs, job risk, and discrimination.
Labor markets apply the same supply-and-demand logic you've used for goods markets, but with one important difference: what's being bought and sold is time and effort, not a physical product. The price is the wage, the buyers are firms, and the sellers are workers. Equilibrium arises when the quantity of labor firms want to hire equals the quantity workers want to supply.
The demand for labor comes from firms, and it derives from productivity. You've studied the marginal revenue product of labor (MRPL): the additional revenue generated by hiring one more worker, equal to marginal product of labor times the price of the output. A firm maximizes profit by hiring workers up to the point where the wage equals MRPL — it keeps hiring as long as the revenue a worker generates exceeds what the worker costs. When wages rise, firms hire fewer workers (move up the MRPL curve); when workers become more productive — through better tools, improved skills, or technological change — MRPL rises and demand for labor shifts right. The labor demand curve is therefore just the MRPL curve.
On the supply side, workers choose whether to offer their time based on the wage relative to their reservation wage — the minimum payment that induces them to work rather than take leisure or home production. From your study of household labor supply decisions, you know that the labor supply curve can eventually bend backward as high wages make workers rich enough to "buy back" leisure. In aggregate, labor supply shifts with population, immigration, changes in social norms, and factors affecting the attractiveness of work (childcare costs, commuting, workplace conditions). Equilibrium sets the wage where these two forces balance: the wage where firms collectively want to hire exactly as many workers as workers collectively want to supply.
Wage differentials across occupations and individuals are explained by four main forces. First, productivity differences: higher-skilled workers command higher wages because their MRPL is higher — this is the most fundamental determinant. Second, compensating differentials: dangerous, unpleasant, or inconvenient jobs must pay more to attract workers, compensating for non-wage costs (coal miners earn more than comparable indoor workers partly for this reason). Third, human capital: education and training raise productivity and thus command wage premiums; the investment in skills is repaid through higher lifetime earnings. Fourth, discrimination: wages can diverge from MRPL when employers have preferences or when structural barriers prevent workers from competing freely for high-paying jobs. Labor market analysis distinguishes these sources of wage gaps — a policy response to productivity-based differentials is different from one targeting discrimination-based gaps.