Work Incentives and the Efficiency of Internal Labour Markets

Abstract

The general scepticism among economists about the efficiency of internal labour markets is based on the assumption that internal labour markets improve workers' security, which has automatic adverse effects upon work incentives, offsetting any 'instrumental' advantages of internal labour markets. The central importance of this issue has not been perceived by internal labour market theorists. Failure to address the issue adequately has prevented internal labour market theory from distinguishing an efficient from an inefficient internal labour market. To refute the assumption of an automatic trade-off requires examination of the relevance of some underlying economic parameters in the analysis of worker motivation. Worker incentives in internal and competitive labour markets differ fundamentally, requiring different analytical tools. Effective motivation in internal labour markets is positive, long-run, and influenced by worker preferences, and may result in higher work effort than found in competitive markets. For developing countries the implications may be especially significant, since internal labour markets may be more likely in developing economies.