Evidence Part VI

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Nature of workers. When economic theorists do permit worker behavior to vary, they almost always motivate employees solely by a desire to shirk. Positing a universal urge to loaf on the job combines with monitoring costs to animate the shirking variant of efficiency-wage theory, in which wage premiums are paid to increase the employee cost of loafing (usually being fired if caught). Such premiums are modeled to vary inversely with the unemployment rate. It is instructive that Bewley (1999, p.111) asked the managers of 118 companies about the shirking description of employee behavior. The responses are summarized as follows:

Type of Reaction (Percentage of Businesses)
Does not apply 103 (87%)
Applies in some cases 10 (8%)
Applies 4 (4%)
No opinion 1 (1%)

From Bewley: “Most managers insisted that the [shirking] theory did not describe their own behavior, but rather a form of bad management. They thought of punishment only as an extreme measure for dealing with antisocial behavior and said that the best results were obtained with a forthright and positive management style. Such a style is defeated by pay cuts, for they withdraw rewards and are interpreted as penalties. A small amount of evidence suggested that the shirking theory may apply at the bottom end of the labor market, especially to the market for low-paid temporary labor, where wages are downward flexible.” (p. 110)

Generalized-exchange theory also posits that LEV worker fixed characteristics are more important determinants of wages than attempts to measure on-the-job effective effort. Medoff and Abraham (1980, 1981) are illustrative of a number of studies that have found compensation to be more strongly related to seniority and education than to internal performance ratings. Given workplace information asymmetries, such ratings are imperfect measures of productivity but do provide some indication of managements’ view of employee conduct. In a related study, Charles Brown (1990) analyzed data from 1,700 non-union and 1,500 union firms and found significantly greater reliance on seniority in wage-adjustment decisions in large or unionized organizations, as predicted by GEM theory. In particular, he reported that in the non-union case, for every 10 percentage point decrease in establishment size, there was a 4 percentage point decrease in the firm’s employees paid on the basis of seniority on the job. Seniority was important for both large and small unionized firms.

More fundamentally, the preference for equitable treatment has long been a subject of research in experimental economics. Werner Güth, Rolf Schmittberger, and Bernd Schwarze (1982) constructed an early, insightful experiment based on the “ultimatum game”. There are two players, and the first is given a sum of money and a choice. He or she has to give some part of the money to the second player, who then also has a choice. If the offered cash is accepted, both players keep the allocated money. If rejected, each gets nothing. Any subgame-perfect equilibrium of the ultimatum game dictates that the (permissible) minimum be offered and accepted. Economists typically motivate utility functions parsimoniously with the preference of more money to less, implying that any positive sum is preferable to nothing and providing both players with clear marching orders.

Contrary to the predictions of models of utility motivated by simplistic preferences, Güth et al. found a strong desire for fair treatment and an urge to retaliate when denied that outcome. Their experiment and the many that followed found that the modal offer is to split the money evenly and that an inequitable offer is likely to be rejected, with the chances of rejection increasing as the second player’s share decreases. The results of ultimatum-game experiments are significant and must make economists suspicious of naïve formulations of individual preferences and utility.

That suspicion is made acute by the broad practical application of the ultimatum game. A version of it, made more complex by established workplace reference standards, incomplete information, quasi-rents, and available gradations of retaliation, is played every day in large work establishments. In the workplace game, worker desire for fair treatment is strengthened by the near-zero expected costs associated with reciprocal reductions in effort and cooperation if management fails to conform to the established wage norm. Market opportunity cost is the minimum offer, but neither LEV employers nor their employees believe that the minimum (market-wage) offer is an optimal solution to this real-life game, a result that is consistent with the findings of experimental economists. If economic theorists are to catch up to what everybody else knows, they must drop their insistence on simplistic, GME-convenient preferences in specialized economies and, consequently, rework their market-centric approach to labor pricing.

Theorists, who care about the explanatory and predictive capacity of economic theory, must become more learned in their motivation of employee behavior. The evidence against the ubiquitous GME approach is overwhelming. In his recent survey of experimental economics, Larry Samuelson (2005) concluded: “… experimental evidence has mounted that people will incur costs not only to bestow benefits on others, but also to penalize others, with the preference for reward or punishment hinging upon perceptions of whether the recipient has acted appropriately or inimically.” (p.97)

Assessment. The evidence supports motivating worker behavior with extended preferences (for fair treatment and, more richly, tit-for-tat strategies) rather than expanded preferences (linking positive-good leisure with shirking on the job).

Blog Type: New Keynesians Saint Joseph, Michigan

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