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A Sorting Model of Labor Contracts: Implications for Layoffs and Wage-Tenure Profiles

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  • Andrew Weiss
  • Ruqu Wang

Abstract

This paper analyzes a sorting model of labor contracts when workers have private information about their own productivities, and firms can test (monitor) workers. We show that sorting considerations alone generate steep wage-tenure profiles, high turnover rates of newly hired workers, and mandatory retirement rules. We find that if test results are only informative to the testing firm, and hiring is costless, then all workers that fail the test are fired. When hiring is costly, we derive conditions under which the firm retains sane (or all) workers that fail its test. We also derive conditions under which the firm tests sane, but not all, of its workers. In the second part of this paper, we consider the case when there are no hiring costs and there are many identical firms competing for the good type workers. we characterize the optimal contracts am show that competition for workers can lower total output. This is because competition can induce firms to increase the proportion of their workers that they test, rot it the test is costly, this lowers output. Finally, we show that because a mandated minimum wage affects the probability of a firm testing its worker's, an increase in the minimum wage can increase (or decrease) aggregate output.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 3448.

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Date of creation: Sep 1990
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Handle: RePEc:nbr:nberwo:3448

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References

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  1. Mathias Dewatripont, 1989. "Renegotiation and information revelation over time: the case of optimal labor contacts," ULB Institutional Repository 2013/9573, ULB -- Universite Libre de Bruxelles.
  2. Abraham, Katharine G & Farber, Henry S, 1987. "Job Duration, Seniority, and Earnings," American Economic Review, American Economic Association, vol. 77(3), pages 278-97, June.
  3. Robert Gibbons & Lawrence Katz, 1989. "Layoffs and Lemons," Working Papers 629, Princeton University, Department of Economics, Industrial Relations Section..
  4. MacLeod, W Bentley & Malcomson, James M, 1988. "Reputation and Hierarchy in Dynamic Models of Employment," Journal of Political Economy, University of Chicago Press, vol. 96(4), pages 832-54, August.
  5. Calvo, Guillermo A & Wellisz, Stanislaw, 1979. "Hierarchy, Ability, and Income Distribution," Journal of Political Economy, University of Chicago Press, vol. 87(5), pages 991-1010, October.
  6. Alan B. Krueger, 1991. "The evolution of unjust-dismissal legislation in the United States," Industrial and Labor Relations Review, ILR Review, Cornell University, ILR School, vol. 44(4), pages 644-660, July.
  7. Burdett, K. & Mortensen, Dale T., 1981. "Testing for ability in a competitive labor market," Journal of Economic Theory, Elsevier, vol. 25(1), pages 42-66, August.
  8. Altonji, Joseph G & Shakotko, Robert A, 1987. "Do Wages Rise with Job Seniority?," Review of Economic Studies, Wiley Blackwell, vol. 54(3), pages 437-59, July.
  9. Kletzer, Lori Gladstein, 1989. "Returns to Seniority after Permanent Job Loss," American Economic Review, American Economic Association, vol. 79(3), pages 536-43, June.
  10. Topel, Robert H, 1991. "Specific Capital, Mobility, and Wages: Wages Rise with Job Seniority," Journal of Political Economy, University of Chicago Press, vol. 99(1), pages 145-76, February.
  11. Salop, Joanne & Salop, Steven, 1976. "Self-Selection and Turnover in the Labor Market," The Quarterly Journal of Economics, MIT Press, vol. 90(4), pages 619-27, November.
  12. George A. Akerlof & Lawrence F. Katz, 1986. "Do Deferred Wages Dominate Involuntary Unemployment as a Worker Discipline Device?," NBER Working Papers 2025, National Bureau of Economic Research, Inc.
  13. Guasch, J Luis & Weiss, Andrew, 1980. "Wages as Sorting Mechanisms in Competitive Markets with Asymmetric Information: A Theory of Testing," Review of Economic Studies, Wiley Blackwell, vol. 47(4), pages 653-64, July.
  14. Lazear, Edward P, 1979. "Why Is There Mandatory Retirement?," Journal of Political Economy, University of Chicago Press, vol. 87(6), pages 1261-84, December.
  15. repec:fth:prinin:258 is not listed on IDEAS
  16. Joanne Salop & Steve Salop, 1976. "Self-selection and turnover in the labor market," Special Studies Papers 80, Board of Governors of the Federal Reserve System (U.S.).
  17. Marshall, Robert C & Zarkin, Gary A, 1987. "The Effect of Job Tenure on Wage Offers," Journal of Labor Economics, University of Chicago Press, vol. 5(3), pages 301-24, July.
  18. Nalebuff, Barry & Scharfstein, David, 1987. "Testing in Models of Asymmetric Information," Review of Economic Studies, Wiley Blackwell, vol. 54(2), pages 265-77, April.
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Citations

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Cited by:
  1. Wang, Ruqu & Weiss, Andrew, 1998. "Probation, layoffs, and wage-tenure profiles: A sorting explanation," Labour Economics, Elsevier, vol. 5(3), pages 359-383, September.
  2. Margolis, D..N., 1995. "Firm Heterogeneity and Worker Self-Selection Bias Estimated Returns to Seniority," Cahiers de recherche 9502, Centre interuniversitaire de recherche en ├ęconomie quantitative, CIREQ.
  3. Lisa M. Lynch, 1992. "Differential Effects of Post-School Training on Early Career Mobility," NBER Working Papers 4034, National Bureau of Economic Research, Inc.
  4. Stefan Bender & Till von Wachter, 2006. "In the Right Place at the Wrong Time: The Role of Firms and Luck in Young Workers' Careers," American Economic Review, American Economic Association, vol. 96(5), pages 1679-1705, December.
  5. Lars Vilhuber, 1997. "Sector-Specific On-the-Job Training: Evidence from U.S. Data," CIRANO Working Papers 97s-42, CIRANO.

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