Lecture Labour market economics: Chapter 13 - Dwayne Benjamin, Morley Gunderson, Craig Riddell

Chapter 13 - Optimal compensation systems. This chapter presents the following content: Internal and external labour markets, seniority and productivity over the lifecycle, superstar wages, mandatory retirement, CEO salaries, tenure, matching offers of raiding firms.

Chapter Thirteen Optimal Compensation Systems  Created by: Erica Morrill, M.Ed           Fanshawe College © 2002 McGraw-Hill Ryerson Ltd Chapter 13-1 Chapter Focus Internal and external labour markets  Seniority and productivity over the lifecycle  Superstar wages  Mandatory retirement  CEO salaries  Tenure  Matching offers of raiding firms  © 2002 McGraw­Hill Ryerson Ltd Chapter 13­2 Compensation System  Features may be peculiar and inefficient  Internal labour markets contrary to neoclassical model  Explaining these features is new area of of research © 2002 McGraw­Hill Ryerson Ltd Chapter 13­3 Agency Theory and Efficiency Wage Theory Principal-agent theory  Efficient contact  Problems     monitoring costs asymmetric information Leads to “truthtelling” contracts Efficiency Wages  Wages affect productivity  Paid according to MPL in the firm  Causality can run both ways  © 2002 McGraw­Hill Ryerson Ltd Chapter 13­4 Economics of Superstars  VMP reflects the size of the market  contribution to the productivity of others   Small skill differences get magnified  when large audience can share the cost © 2002 McGraw­Hill Ryerson Ltd Chapter 13­5 Salaries of CEOs  VMP is high if individual improves the productivity of a number of people  CEOs of large multinationals  responsible for large numbers of customers, employees and suppliers  High salaries ensure specific talents are matched with the organization © 2002 McGraw­Hill Ryerson Ltd Chapter 13­6 Salaries as Tournament Prizes Efficient when executives are ranked according to the relative value of their contribution to the organization  Individuals are ranked on the basis of their performance not necessarily their individual productivity  Create disincentives    discourage cooperation disrupt the performance of competitors © 2002 McGraw­Hill Ryerson Ltd Chapter 13­7 Efficient Pay Equality and Employee Cooperation  Trade-offs in determining the optimal degree of inequality  This differs with situation  affect on the output of others  different levels or structures  person’s nature © 2002 McGraw­Hill Ryerson Ltd Chapter 13­8 Up-or-Out Rules  May be efficient given imperfect and asymmetric information  forces employers to promote skilled workers  allows new workers in junior spots  enables employers to remove disgruntled employees  compels managers to make hard decisions © 2002 McGraw­Hill Ryerson Ltd Chapter 13­9 Raiding, Offer-Matching  Winner’s Curse  raiding other organizations for top talent  encourages offer-matching if employee is worth the amount  Mitigating circumstances Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 10 Piece Rates  Positive work incentive effects  Rewarded directly for producing more output  Measuring and monitoring issues Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 11 Executive Compensation  Motivated by the need to pay “prizes” to top person  Induce incentives to “win the tournament prize”  Executive with the right talent matched with the organization that needs and values that talent Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 12 Deferred Wages  Wages are above productivity for senior employees  Even larger if consider pensions  Exist in firms with long-term commitment to continue contract Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 13 Rationales for Deferred Compensation  Ensure honesty and work effort  Reduce need for daily monitoring  Reduce turnover  Provide workers with financial interest in the firm Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 14 Rationale for Mandatory Retirement  To enable deferred wages   Facilitate worksharing   provides the termination date for contractual arrangements with deferred wages opening up promotion and employment opportunities Certainty for planning new staff, pension obligations and medical and health expenditures Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 15 Figure 13.2 Mandatory Retirement Age Wage, productivit y W, wage VMP, productivity MR Age Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 16 Arguments Against Mandatory Retirement  Age discrimination  Employment standards and human rights legislation does not cover workers over 65  Improve the viability of public and private pensions Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 17 End of Chapter Thirteen Chapter 13­ © 2002 McGraw­Hill Ryerson Ltd 18 ... © 2002 McGraw­Hill Ryerson Ltd Chapter 13 9 Raiding, Offer-Matching  Winner’s Curse  raiding other organizations for top talent  encourages offer-matching if employee is worth the amount  Mitigating circumstances Chapter 13 ... and health expenditures Chapter 13 © 2002 McGraw­Hill Ryerson Ltd 15 Figure 13. 2 Mandatory Retirement Age Wage, productivit y W, wage VMP, productivity MR Age Chapter 13 © 2002 McGraw­Hill Ryerson Ltd... 65  Improve the viability of public and private pensions Chapter 13 © 2002 McGraw­Hill Ryerson Ltd 17 End of Chapter Thirteen Chapter 13 © 2002 McGraw­Hill Ryerson Ltd 18