Cohort effects within firms, and their implications for labour market outcomes and the business cycle
Lead Research Organisation:
University of Edinburgh
Department Name: Sch of Economics
Abstract
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Organisations
Publications
Martins P
(2010)
Downward Wage Rigidity in a Model of Equal Treatment Contracting*
in The Scandinavian Journal of Economics
Richard Holt (Author)
(2011)
Skills, mismatch and inequality : labour market frictions and costly technology
Snell A
(2010)
Labor Contracts, Equal Treatment, and Wage-Unemployment Dynamics
in American Economic Journal: Macroeconomics
Snell A
(2014)
A COMPETITIVE MODEL OF WORKER REPLACEMENT AND WAGE RIGIDITY
in Economic Inquiry
Snell, A
(2011)
Equal treatment, worker replacement and wage rigidity
in Bank of Spain
| Description | The project aimed to build formal theoretical models of how wages and employment evolve when firms cannot pay discriminate (or can only discriminate to a limited extent). It is indisputable that pay relativities within organisations matter. There is much anecdotal evidence that, in many occupations, a worker might be especially put out to find out that a similarly qualified colleague is being paid at a higher rate. Understanding this phenomenon may well be more a matter of psychology than of economic theory. Our research suggests that wages will be less variable and employment considerably more variable than if labour markets behave like markets for other commodities. The reasoning is as follows. When a firm is hiring new workers, conventional supply and demand analysis suggests that if the labour market is tight, say, with low supply of workers or high demand, the price (wage) will to rise to bring supply and demand into balance. If, however, the firm cannot pay newly hired workers at different rates from existing workers, the analysis is very different. In these circumstances, the firm wants to pay a high rate to new workers because the market is tight and it will also have to pay existing workers at this high rate. This could be very costly if the existing workers would have been content to work at lower rates without new hires. This also means that the firm has an incentive not to raise wages as far as it would do in the normal supply-demand analysis, so wages do not respond fully to normal market signals. The same happens when the labour market is slack in downturns: the firm could potentially hire at lower wages but these new hires would not be content to work alongside better paid but otherwise similar employees. The firm could cut the wage of incumbents to match that of the new hires, but there are reasons why this is difficult. One possibility we will investigate is that incumbents do not want a wage which fluctuates greatly in line with market conditions, but instead would prefer more stability. We find that the firm prefers to maintain the wage close to its previous level and bring in new hires at this higher rate even though it is paying more than necessary to attract the new workers. We also investigated the extent to which this equal treatment phenomenon can be detected a detailed dataset from Portugal, and we found evidence to support the idea that wages of new hires do not vary markedly more over the business cycle than those of incumbent workers. |
| Exploitation Route | We anticipate that the main area would be in academic research. The project has developed dynamic models of equal treatment, where cohorts of new hires to a firm cannot be treated independently of incumbents. Simple, tractable equilibria have been derived. These models behave very differently to comparable models in which employers can bargain independently with each new cohort of workers, exhibiting less flexible wages and more variable unemployment. We also developed the methodological point that panel estimates of tenure specific sensitivity of wages to the business cycle are subject to likely biases in the presence of equal treatment of workers. In particular, canonical variables used in the literature such as the minimum unemployment rate during a worker's time at the firm and the current unemployment rate interacted with a new hire dummy can be significant even in an extreme case when each worker in the firm receives the same wage, regardless of tenure (equal treatment). This means that conclusions typically drawn based on such estimates about the nature of contracting and the variability of wages over the business cycle of different cohorts of workers, are potentially suspect. In matched data the problem can be resolved by the inclusion in the panel of firm-year interaction fixed effects to eliminate the common wage components within each firm. The project has also developed a simple methodology for calculating how the wages of the cohort of new hires responds to the business cycle. |
| Sectors | Education |
| URL | http://www.econ.ed.ac.uk/papers/focus_papers/School_FocusPaper03.pdf |
| Description | It has been discussed in the press in relation to the general debate surrounding whether unemployment variability reflects inflexible real wages. Martins, Solon and Thomas (2012) is discussed in Tim Harford's Undercover Economist column: "Why recessions aren't all about job losses: When people get sacked during an economic downturn, the received wisdom is that it is because wages don't adjust. But is 'wage rigidity' really to blame?" (http://www.ft.com/cms/s/2/c357ee1e-469c-11df-9713-00144feab49a.html#axzz22DXQfd4A) |
| First Year Of Impact | 2011 |
| Description | Equal treatment, worker replacement and wage rigidity |
| Form Of Engagement Activity | A talk or presentation |
| Part Of Official Scheme? | No |
| Primary Audience | |
| Results and Impact | Paper presented at the Bank of Spain, 19th October 2011 |
| Year(s) Of Engagement Activity | 2011 |