Intra-Firm Bargaining and Wage Dynamics: A Model of Asymmetric Learning

This paper develops a bargaining model between employers and workers that is driven by asymmetric information between current employers and potential employers. Both the current employer and the worker have the same information regarding the worker's productivity. This information is not available to outside firms which observe only wages. Existing literature on asymmetric information between current and potential employers typically assumes that workers are price takers, and develops job signaling models. In equilibrium, wages are attached to publicly observable characteristics. High and low ability workers in the same job earn the same wages. This result prompts a question: Why are high productivity workers not able to capture a larger portion of the surplus than less productive workers? I develop a wage signaling model in which workers and employers bargain over wages that addresses this question, and analyze how the market learns about employed workers skills. This model generates a semi-separating equilibrium. More able workers compensate their employers by earning lower wages in the first period to elicit higher future offers from outside firms. These workers' wages depend on their actual productivity. Outside firms observe wages and infer these workers' productivity. They then make offers equal to the worker's productivity and the current employer matches the offers. Less able workers for whom it is too costly to reveal ability through wages earn a wage below their productivity in all periods. I then show that this model of bargaining can generate predictions consistent with several regularities in wage patterns of managers within firms. Existing literature which explains empirical findings on wage dynamics in internal labor markets mainly focuses on incentive models or models in which wages are determined in spot markets (JEL J3, C78,D82, D83).