Wage/Job Security Contracts and Unionism

Abstract

A major empirical observation, which needs urgent explanation, is that of wage rigidity and excess supply of labor. In order to provide an explanation based on rational behavior, Azariadis [2; 4], Baily [5], Gordon [9], and others have analyzed economic situations in which, in the presence of uncertainty, risk-averse workers' desire to shift risk to less-riskaverse employers gives rise to implicit labor contracts. A number of problems remain, however. For instance, the theory explains real wage rigidity rather than nominal wage rigidity, macro economic implications haven't been worked out, on average employment is higher than that which would prevail in a spot market, etc. On the other hand, the implicit contract theorists have shown that it is possible to begin to tackle real economic problems by replacing ad hoc assumptions with explanations based on optimizing agents. Of course risk aversion and risk shifting need not be the sole reason for a contract to exist. If worker skills are firm-specific then this not only creates a quasi-permanent attachment of the worker to the firm but provides another rationale for the existence of a contract. It also meets the objection raised by Akerlof and Miyazaki [1] that the implicit contract theory requires the firm's labor force to be immobile after uncertainty is over. In fact, in the next section, we shall make a case for the hypothesis that risk neutral firms may offer a contract which specifies wages and job security and which depends on the skill level of the worker. Since general and specific skills are likely to vary over firms, a new applicant in the labor market would then face a trade-off between wages and job security. This paper is largely empirical and in it this trade-off forms the basis of the empirical testing. Job security is measured by the length of notice of job termination and we formulate the empirical equation on the basis of the choice of a job characterized by length of notice, wage, and wage elsewhere. According to Freeman [8], nature and length of the attachment between workers and enterprises is one of the most important aspects of the work relation in modern industrial economics and he goes on to add that unionization is likely to affect the worker-employer interaction in important ways. A natural question for us to ask, therefore, is how does unionization affect the contract? In particular, do unions alter the terms of trade between wages and job security or do they shift the trade off to the right? It is now generally accepted that unions improve wages although the quantitative magnitude is subject to some debate (see, for example, Lewis's recent survey [13]). The question then is whether the wage improvement is at the expense of job security or, in fact, wage improvement and increased job security go together.