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Implicit Contracts, Unemployment, and Labor Market Segmentation

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  • Altmann, Steffen

    ()
    (IZA)

  • Falk, Armin

    ()
    (University of Bonn)

  • Huffman, David B.

    ()
    (University of Oxford)

Abstract

We analyze the impact of imperfect contract enforcement on the emergence of unemployment. In an experimental labor market where trading parties can form long-term employment relationships, we compare a work environment where effort is observable, but not verifiable to a situation where explicit contracts are feasible. Our main result shows that unemployment is much higher when third-party contract enforcement is absent. Unemployment is involuntary, being caused by firms' employment and contracting policy. Moreover, we show that implicit contracting can lead to a segmentation of the labor market. Firms in both segments earn similar profits, but workers in the secondary sector face much less favorable conditions than their counterparts in primary-sector jobs.

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Bibliographic Info

Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 5001.

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Length: 32 pages
Date of creation: Jun 2010
Date of revision:
Handle: RePEc:iza:izadps:dp5001

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Keywords: implicit contracts; incentives; fairness; unemployment; dual labor markets;

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References

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  1. Fehr, Ernst & Schmidt, Klaus M., . "A theory of fairness, competition, and cooperation," Chapters in Economics, University of Munich, Department of Economics.
  2. Eric A. Verhoogen & Stephen V. Burks & Jeffrey P. Carpenter, 2007. "Fairness and Freight-Handlers: Local Labor-Market Conditions and Wage-Fairness Perceptions in a Trucking Firm," Industrial and Labor Relations Review, ILR Review, Cornell University, ILR School, vol. 60(4), pages 477-498, July.
  3. Armin Falk & James J. Heckman, 2009. "Lab Experiments are a Major Source of Knowledge in the Social Sciences," CESifo Working Paper Series 2894, CESifo Group Munich.
  4. Sebastian Kube & Michel Andre Marechal & Clemens Puppe, 2012. "The Currency of Reciprocity: Gift Exchange in the Workplace," American Economic Review, American Economic Association, vol. 102(4), pages 1644-62, June.
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  7. Ernst Fehr & Armin Falk, 1999. "Wage Rigidity in a Competitive Incomplete Contract Market," Journal of Political Economy, University of Chicago Press, vol. 107(1), pages 106-134, February.
  8. Fehr, Ernst & Kirchsteiger, Georg & Riedl, Arno, 1996. "Involuntary Unemployment and Non-compensating Wage Differentials in an Experimental Labour Market," Economic Journal, Royal Economic Society, vol. 106(434), pages 106-21, January.
  9. Ernst Fehr & Simon Gaechter, 2000. "Fairness and Retaliation: The Economics of Reciprocity," CESifo Working Paper Series 336, CESifo Group Munich.
  10. Shapiro, Carl & Stiglitz, Joseph E, 1984. "Equilibrium Unemployment as a Worker Discipline Device," American Economic Review, American Economic Association, vol. 74(3), pages 433-44, June.
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  13. Urs Fischbacher, 2007. "z-Tree: Zurich toolbox for ready-made economic experiments," Experimental Economics, Springer, vol. 10(2), pages 171-178, June.
  14. Brown, Martin & Falk, Armin & Fehr, Ernst, 2003. "Relational Contracts and the Nature of Market Interactions," IZA Discussion Papers 897, Institute for the Study of Labor (IZA).
  15. Blanchflower, David G & Oswald, Andrew J & Sanfey, Peter, 1996. "Wages, Profits, and Rent-Sharing," The Quarterly Journal of Economics, MIT Press, vol. 111(1), pages 227-51, February.
  16. Ernst Fehr & Simon Gachter & Georg Kirchsteiger, 1997. "Reciprocity as a Contract Enforcement Device: Experimental Evidence," Econometrica, Econometric Society, vol. 65(4), pages 833-860, July.
  17. Akerlof, George A, 1982. "Labor Contracts as Partial Gift Exchange," The Quarterly Journal of Economics, MIT Press, vol. 97(4), pages 543-69, November.
  18. Joel Sobel, 2006. "For Better or Forever: Formal versus Informal Enforcement," Journal of Labor Economics, University of Chicago Press, vol. 24(2), pages 271-298, April.
  19. W. Bentley MacLeod & James M. Malcomson, 1986. "Implicit Contracts, Incentive Compatibility, and Involuntary Unemployment," Working Papers 585, Queen's University, Department of Economics.
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Cited by:
  1. Armin Falk & Ingo Menrath & Pablo Emilio Verde & Johannes Siegrist, 2011. "Cardiovascular Consequences of Unfair Pay," SOEPpapers on Multidisciplinary Panel Data Research 380, DIW Berlin, The German Socio-Economic Panel (SOEP).
  2. Werner Güth & Martin G. Kocher & Vera Popova, 2010. "Co-employment of permanently and temporarily employed agents," Jena Economic Research Papers 2010-016, Friedrich-Schiller-University Jena, Max-Planck-Institute of Economics.

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