The effects of democratic determination of wages : theory and evidence from self-managed firms

Some assert that when efficiency requires cooperation, effectiveness is increased by an egalitarian pay structure resulting from workers'participation in decisionmaking about pay. But it can also be argued that equalizing pay reduces the morale of highly productive workers, and thus more than offsets the positive effects of cooperation. To shed light on this controversy, the author explores both theoretically and empirically how productivity is affected when workers determine relative pay differences democratically (by referendum). The median voter model suggests that this kind of decisionmaking process produces an egalitarian wage structure. Using alternative assumptions about workers incentives, the author formalizes and empirically tests two competing views about how an egalitarian wage structure affects productivity in a sample of Yugoslav firms. He finds that democratic decisionmakingabout pay - if divorced from substantive participation of workers in other areas - decreases productivity. One implication of this finding for policy-makers, particularly Eastern Europe and the former Soviet republics, is that programs designed to allow workers to participate in pay decisions must be consistent with workers'general involvement in decisionmaking. If participation is limited to decisions about pay, or if external control is imposed on intrafirm wage differentials (which has effects on wage distribution similar to those of worker participation), the resulting compressed wage structure is likely to produce negative effects on productivity.