Layoffs as Part of an Optimal Incentive Mix: Theory and Evidence
AbstractFirms 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 cost-efficient 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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Bibliographic InfoPaper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 2447.
Length: 34 pages
Date of creation: Nov 2006
Date of revision:
Publication status: published as 'Promotions, Dismissals and Employee Selection: Theory and Evidence' in: Journal of Law, Economics and Organization, 2011, 27(1). 159-179
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Other versions of this item:
- Anders Frederiksen & Elõd Takáts, 2006. "Layoffs as Part of an Optimal Incentive Mix: Theory and Evidence," MNB Working Papers 2006/2, Magyar Nemzeti Bank (the central bank of Hungary).
- Anders Frederiksen & Elod Takats, 2005. "Layoffs as Part of an Optimal Incentive Mix: Theory and Evidence," Working Papers 881, Princeton University, Department of Economics, Industrial Relations Section..
- 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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