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Competition and Relational Contracts: The Role of Unemployment as a Disciplinary Device

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  • Brown, Martin
  • Falk, Armin
  • Fehr, Ernst

Abstract

When workers are faced with the threat of unemployment, their relationship with a particular firm becomes valuable. As a result, a worker may comply with the terms of a relational contract that demands high effort even when performance is not enforceable by a third party. But can relational contracts motivate high effort when workers can easily find alternative jobs? We examine how competition for labor affects the emergence of relational contracts and their effectiveness in overcoming moral hazard in the labor market. We show that effective relational contracts do emerge in a market with excess demand for labor. Long-term relationships turn out to be less frequent when there is excess demand for labor than they are in a market characterized by exogenous unemployment. However, stronger competition for labor does not impair labor market efficiency: higher wages induced by competition lead to higher effort out of concerns for reciprocity.

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Bibliographic Info

Paper provided by Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich in its series Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems with number 359.

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Date of creation: May 2011
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Handle: RePEc:trf:wpaper:359

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Keywords: Relational Contracts; Involuntary Unemployment;

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References

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  1. James Andreoni & Marco Castillo & Ragan Petrie, 2003. "What Do Bargainers' Preferences Look Like? Experiments with a Convex Ultimatum Game," American Economic Review, American Economic Association, vol. 93(3), pages 672-685, June.
  2. Ai, Chunrong & Norton, Edward C., 2003. "Interaction terms in logit and probit models," Economics Letters, Elsevier, vol. 80(1), pages 123-129, July.
  3. 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).
  4. Urs Fischbacher, 2007. "z-Tree: Zurich toolbox for ready-made economic experiments," Experimental Economics, Springer, vol. 10(2), pages 171-178, June.
  5. Flabbi, Luca & Ichino, Andrea, 2001. "Productivity, seniority and wages: new evidence from personnel data," Labour Economics, Elsevier, vol. 8(3), pages 359-387, June.
  6. Hoyt Bleakley & Ann E. Ferris & Jeffrey C. Fuhrer, 1999. "New data on worker flows during business cycles," New England Economic Review, Federal Reserve Bank of Boston, issue Jul, pages 49-76.
  7. Medoff, James L & Abraham, Katharine G, 1980. "Experience, Performance, and Earnings," The Quarterly Journal of Economics, MIT Press, vol. 95(4), pages 703-36, December.
  8. Wu, Steven Y. & Roe, Brian E., 2007. "Discretionary Latitude and Relational Contracting," IZA Discussion Papers 2879, Institute for the Study of Labor (IZA).
  9. Roe, Brian E. & Wu, Steven Y., 2009. "Do the Selfish Mimic Cooperators? Experimental Evidence from Finitely-Repeated Labor Markets," IZA Discussion Papers 4084, Institute for the Study of Labor (IZA).
  10. Steffen Huck & Andrew J. Seltzer & Brian Wallace, 2011. "Deferred Compensation in Multiperiod Labor Contracts: An Experimental Test of Lazear's Model," American Economic Review, American Economic Association, vol. 101(2), pages 819-43, April.
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Cited by:
  1. Klaus M. Schmidt, 2011. "Social Preferences and Competition," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 43, pages 207-231, 08.
  2. Dur, Robert & Tichem, Jan, 2013. "Altruism and Relational Incentives in the Workplace," IZA Discussion Papers 7363, Institute for the Study of Labor (IZA).
  3. Werner, Peter & Bolton, Gary & Ockenfels, Axel, 2013. "How managerial wage transparency may reduce shareholder returns Evidence from an experiment," Annual Conference 2013 (Duesseldorf): Competition Policy and Regulation in a Global Economic Order 79766, Verein für Socialpolitik / German Economic Association.
  4. Fehr, Ernst & Brown, Martin & Zehnder, Christian, 2008. "On Reputation: A Microfoundation of Contract Enforcement and Price Rigidity," IZA Discussion Papers 3655, Institute for the Study of Labor (IZA).
  5. Kocher, Martin G. & Luhan, Wolfgang J. & Sutter, Matthias, 2012. "Testing a forgotten aspect of Akerlof’s gift exchange hypothesis: Relational contracts with individual and uniform wages," Discussion Papers in Economics 12816, University of Munich, Department of Economics.
  6. Bartling, Björn & Fehr, Ernst & Schmidt, Klaus M., 2012. "Use and Abuse of Authority," Discussion Papers in Economics 14243, University of Munich, Department of Economics.
  7. Björn Bartling & Ernst Fehr & Klaus Schmidt, 2013. "Use and Abuse of Authority - A Behavioral Foundation of the Employment Relation," CESifo Working Paper Series 4068, CESifo Group Munich.
  8. Martin G. Kocher & Wolfgang J. Luhan & Matthias Sutter, 2012. "Testing a forgotten aspect of Akerlof’s gift exchange hypothesis: Relational contracts with individual and uniform wages," Working Papers 2012-02, Faculty of Economics and Statistics, University of Innsbruck.
  9. Robert Dur & Jan Tichem, 2012. "Social Relations and Relational Incentives," Tinbergen Institute Discussion Papers 12-054/1, Tinbergen Institute.
  10. Schmidt, Klaus M., 2010. "Social Preferences and Competition," Discussion Papers in Economics 11313, University of Munich, Department of Economics.
  11. Charness, Gary & Du, Ninghua & Yang, Chun-Lei & Yao, Lan, 2013. "Promises in contract design," European Economic Review, Elsevier, vol. 64(C), pages 194-208.
  12. Vogt, Nora & Reeson, Andrew F. & Bizer, Kilian, 2013. "Communication, competition and social gift exchange in an auction for public good provision," Ecological Economics, Elsevier, vol. 93(C), pages 11-19.
  13. Bartling, Björn & Fehr, Ernst & Schmidt, Klaus M., 2012. "Use and Abuse of Authority," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 391, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
  14. repec:dgr:uvatin:2012054 is not listed on IDEAS
  15. Schram, Arthur & Brandts, Jordi & Gërxhani, Klarita, 2010. "Information, bilateral negotiations, and worker recruitment," European Economic Review, Elsevier, vol. 54(8), pages 1035-1058, November.

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