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Layoffs as Part of an Optimal Incentive Mix: Theory and Evidence

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Author Info
Anders Frederiksen () (Hoover Institution, Stanford University, Aarhus School of Business and IZA Bonn)
Elöd Takáts () (Princeton University)

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Abstract

Firms offer highly complex contracts to their employees. These contracts contain a mix of incentives, such as fixed wages, bonus payments, promotion options, and layoff threats. In general, economists understand how incentives motivate employees but not why a particular mix should be used. In this paper we present a model in which the observed incentive mix is an optimal contract. In particular, we show that it can be optimal for firms to combine costefficient incentives such as promotions and bonuses with layoffs. The intuition is that layoffs play a dual role. First, they create incentives for the employees. Second, they contribute to sorting and selection. In the empirical part of the paper we test the model’s basic assumption about employee sorting and selection together with its broader predictions about employee careers. Using personnel records from a large international pharmaceutical company, we find that the model’s predictions are consistent with the data.

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Publisher Info
Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 2447.

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Length: 34 pages
Date of creation: Nov 2006
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Handle: RePEc:iza:izadps:dp2447

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Related research
Keywords: personnel economics; incentive mix; layoffs;

Other versions of this item:

Find related papers by JEL classification:
J30 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - General
J41 - Labor and Demographic Economics - - Particular Labor Markets - - - Labor Contracts
M50 - Business Administration and Business Economics; Marketing; Accounting - - Personnel Economics - - - General

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Anders Frederiksen & Rikke Ibsen & Michael Rosholm & Niels Westergaard-Nielsen, 2006. "Labour Market Signalling and Unemployment Duration: An Empirical Analysis Using Employer-Employee Data," IZA Discussion Papers 2132, Institute for the Study of Labor (IZA). [Downloadable!]
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