Asymmetric Information, Multiperiod Labor Contracts, and Inefficient Job Separations

Abstract

Economists have for some time been telling the world and each other that in a dynamic economy some labor turnover is to be expected and is in fact efficient. However, there is a pervasive feeling that not all of the observed turnover is efficient. The dilemma, of course, is to provide satisfactory reasons why inefficient turnover should occur with optimizing rational economic agents. In light of this problem, recent developments in implicit contract theory [1;4;5] have begun to focus on the idea that in a world of uncertainty, asymmetric information and moral hazard problems may prevent efficient, fully enforceable, contingent claims contracts from developing. In particular, the asymmetric information (i.e., firms privately observe their profits and workers privately observe their alternatives) and moral hazard problems make efficient turnover unlikely because parties making separation decisions have neither all available relevant information nor have an incentive to use this information to make an efficient decision. While this investigation into the ramifications of asymmetric information has yielded new insights, analysis in previous studies has been limited to models in which separations occur only in the final period of the model. In this paper, a simple multiperiod model is developed in which separations may occur in each of several successive periods. The multiperiod specification enables us to distinguish between temporary and permanent separations and to focus attention on the potential for inefficient separations induced by asymmetric information problems in an intertemporal setting. In an intertemporal model in which separations may occur in any one of several successive periods, intertemporal allocation problems arise because compensation in a given period plays an allocative role not only in that particular period but also in all periods prior to that period. That the terms of compensation may play a multiple intertemporal role in allocating labor has been recognized previously in other contexts. For instance, this argument has been used to explain the observed occurrence of rising wage profiles with tenure in the presence of such factors as worker shirking or firm specific skill acquisition [2;9]. In this asymmetric information setting, intertemporal allocation problems