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The Firm as a Community Explaining Asymmetric Behavior and Downward Rigidity of Wages



This paper models the firm as a community à la Akerlof (1980) to account for asymmetric behavior, and in particular, downward rigidity of wages. It is shown that, through social interaction among workers in the firm community, wage cuts can give rise to a large, discontinuous fall in labor productivity (known as “catastrophe”). Furthermore, this large fall in labor productivity will persist or display inertia (known as “hysteresis”) even if the wages are restored to the pre-cut level and beyond. Our catastrophe/hysteresis finding with respect to wage cuts can rationalize the downward rigidity of wage behavior, and is consistent with the interview evidence of fragile worker morale emphasized by Bewley (1999) and others in explaining why employers are sensitive to and refrain from cutting worker pay.

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  • Chung-cheng Lin & C.C. Yang, 2006. "The Firm as a Community Explaining Asymmetric Behavior and Downward Rigidity of Wages," IEAS Working Paper : academic research 06-A014, Institute of Economics, Academia Sinica, Taipei, Taiwan.
  • Handle: RePEc:sin:wpaper:06-a014

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    References listed on IDEAS

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    13. George A. Akerlof, 1980. "A Theory of Social Custom, of which Unemployment may be One Consequence," The Quarterly Journal of Economics, Oxford University Press, vol. 94(4), pages 749-775.
    14. Bewley, Truman F., 1998. "Why not cut pay?," European Economic Review, Elsevier, vol. 42(3-5), pages 459-490, May.
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    More about this item


    Wage rigidity; Firm community; Catastrophe; Hysteresis;

    JEL classification:

    • A13 - General Economics and Teaching - - General Economics - - - Relation of Economics to Social Values
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
    • J41 - Labor and Demographic Economics - - Particular Labor Markets - - - Labor Contracts


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