Discretionary Acquisition of Firm-Specific Human Capital Under Non-Verifiable Performance

Abstract

The paper considers a model, in which a worker makes discretionary investment in the acquisition of firm-specific human capital (HC). When this investment is non-contractible, and the firm has the full bargaining power, the worker's incentives to invest are completely undermined. However, we show the inability of the incumbent firm to observe wage offers arriving from competitors at the interim stage prevents it from complete expropriation of the surplus; the worker is then induced to make positive investment in equilibrium. We then explore the value of commitment opportunities for the firm. We show that a commitment to the wage floor for the second period destroys the worker's incentives to acquire HC, but makes turnover efficient. This opportunity is practiced only if the return to worker's investment in HC acquisition is sufficiently unproductive. We also consider an extension of the basic model, in which firms differ in the productivity of their HC acquisition technology. To separate themselves and thus induce the employee to exert higher effort, more productive firms offer higher entry wages than the less productive ones, whereas under symmetric information the pattern of wages is the opposite. Furthermore, we show that in stark contrast to the case of symmetric information, the commitment opportunity has value for the more productive firms: commitment to a wage floor acts as a substitute to the higher entry wage.