Seniority Based Hiring

1
Chapter 11

• Seniority Based Hiring

2
Reading for next class

• http//www.newyorker.com/archive/2002/07/22/020722
  fa_fact?currentPage2

3
Question on reading

• According to the reading, what percent of labor
  costs go towards actual productive work (rather
  than vacations, sick leave, etc.)?
• A. 50
• B. 60
• C. 70
• D. 85
• E. 95

4
Themes

• When people unlikely to get promoted, what
  alternatives exist to provide motivation?
• Should pay rise with seniority?
• Can overpaying workers cause them to stay too
  long past normal retirement?

5
Opinion Poll

• Do most fast food workers in Goleta work hard?
• A. Yes, most do.
• B. .No, most do not.
• C. Dont know

6
Clip

• http//www.break.com/index/burger-king-employee-ta
  kes-bath-in-sink.html

7
Flat Pay vs. Pay that Rises with Seniority

• Plan 1 Firm pays W(t)VMP(t) at every y
• Plan 2 Firm Pays W(t)ltVMP(t) early and
  W(t)gtVMP(t) later
• Key assumption
• Effort not perfectly monitored.
• Worker Choice
• Shirk (Goof off)
• Not Shirk
• Firm strategy
• Fire worker (if caught shirking)
• Keep worker if not

Wt
At
Vt
t
T
8
Question

• Given Plan 1, in which worker is paid VMP at
  every point in time, who has greater incentive to
  shirk?
• A. Younger workers
• B. Older workers
• C. Workers near the middle of their careers
• D. Cant tell

Wt
At
WtVt
t
T
9
Flat Pay vs. Pay that Rises with Seniority

• P probability caught when you shirk
• Consider choice at time T-1
• Worker does not shirk, gets
• WT-1WT
• Worker shirks, gets
• WT-1LT-1 (1-P)WT (PAT)
• T-1 close to T, so AT VMPT approximately, so
• WT-1LT-1 (1-P)WT (PAT) WT-1LT-1
  (1-P)WT (PWT) WT-1LT-1 WT
• So for plan 1
• No Shirk WT-1WT
• Shirk WT-1LT-1 WT

Wt
At
WtVt
t
T
10
Flat Pay vs. Pay that Rises with Seniority

• Plan 1
• No Shirk WT-1WT
• Shirk WT-1LT-1 WT
• Therefore worker will shirk! Goof off.
• Production will be less than VMPT
• Firm will lose money.

Wt
At
Vt
t
T
11
Flat Pay vs. Pay that Rises with Seniority

• Plan 2
• No Shirk WT-1WT
• ShirkWT-1LT-1(1-P)WT (PAT)WT-1WT -P(WT
  -AT) LT-1
• If P(WT- AT )gt LT-1 then worker prefers not
  shirking.
• This is likely if WTgtgtgtAT
• So plan 2, raising pay with seniority, may have
  advantage.
• Worker can earn more this way
• Plan 1 firm cannot survive paying VMPW. Effort
  choices close to T will cause it to suffer losses

Wt

At
Vt
t
T
12
Precise Solution
Wt

• Underpay workers when young, overpay when old,so
  that
• Sum(Wt)/(1r)t Sum(VMPt)/(1r)t

At
Vt
t
T
13
Upside for worker

• Why would workers accept low wages initially?
• PV of W PV VMP so indifferent over long haul
• Rational worker realizes a firm offering WtVMPt
  will reneg, because older workers will shirk

Wt
At
Vt
t
T
14
Downside for workers

• What if firm plays low initially and then refuses
  to pay high when the time comes later?
• Firms motivated not to do this because of
  reputational effects.
• Risk of firm bankruptcy
• Bad news for worker.

Wt
At
Vt
t
T
15
Upside for Firms

Wt

• Reduce shirking problem, dont end up paying
  worker gtVMP, on average
• Risk sharing
• If firm owners risk averse, this helps them hedge
  against future by causing workers to bear some of
  the risk
• Essentially, workers are investing a lot up
  front, by accepting WltVMP, just as owners of
  firms capital are

At
Vt
t
T
16
Downside for Firms

• If WTgtAT, worker wont want to retire!
• Solution Mandatory retirement
• Problem Now its illegal!
• How about reducing W to VMP after T?
• Workers dont like wages lowered.
• Legal troubles. More age discrimination.
• Offer buyouts to get workers to leave.

Wt
At
Vt
t
T
17
Notes

• Pay rising with seniority useful when output is
  hard to measure
• Pensions also mean workers are paid bonus late
  in their careers, and can reduce shirking
• Large penalty for low-effort choice can offset
  monitoring cost
• (Janitor story, p. 294)
• (Phone books).
• Sidebar
• Need large penalties to get high effort
• Example Cheating. Need high penalties to lessen
  cheating if chance of getting caught is low.

18
In the Real World.

• Promotions and raises go hand in hand.

Wt
t