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Wages and Work
Why should I let that toad work
Squat on my life?
Can’t I use my wit as a pitchfork
And drive the brute off?
Six days of the week it soils
With its sickening poisonJust for paying a few bills?
That’s out of proportion..
Phillip Larkin
The standard view of work in
• Work is a disutility. That is, it is intrinsically
something that is repugnant and that
people would like to avoid
• Work involves an opportunity cost: which
is leisure. [OC= the next best alternative
• People substitute work for leisure at
different times.
Is work a disutility?
• Q) Is work something that is intrinsically
• In what circumstances is work rewarding
and in what circumstances is it a
• Both the property rights determining who
owns the results of one's labor and the
structure of control over the labor process
affect how we feel about work.
The backward bending supply of
• If labor is really a disutility, we can expect
the following shape for the labor supply
Hours worked
One possible explanation for the
disutility of a lot of work
• If many people see work as an
undesirable activity, it is because of how
production is organized, who controls it,
and how the benefits from it are
• One needs to look therefore at how a firm
is organized.
What is different about a firm?
• Unlike the relationship between firms where
resources and labor processes are allocated in a
decentralized situation, within a firm: command.
• Command relations are defined as relationships
between superiors and subordinates in which
the superior exerts power over the subordinate
• Power- ability to get other to do something to
your advantage without being faced with
equivalent threat
Why a mini-command economy?
• Two possible explanations:
• 1) Transactions Cost (it would be
inefficient to try and arrange work within a
firm by competition)—Oliver Williamson
• 2)Incomplete Contracts (one cannot
guarantee work effort without some sort of
Inherent conflict between workers
and owners
• Which are the inherent conflictual
(Pzef )  (Pm m)  w
Another way to see this conflict
(Pzef )  (Pm m)  w
Rearranging this term, we have
• Pz= w/ef+rk/(ef)+(Pm*m)/(ef)
• Price= unit labor cost+unit profit+unit material cost
• Unit labor cost is the amount of money that
employees must be paid for each unit of output
• For a given price, employers want the ulc low so that
unit profit is high. Employees want it high, which will
make unit profit low.
The critical problem at the center of
the firm
• The problem of labor extraction:
• Process of transforming labor time than an
employer has purchased into work done
• Firms seek to minimize unit labor costs
• eg. of ULC : if the company pays wages of $10
per hour and each employee, on average, brings
in 25 pounds of fish per hour, then unit labor
costs can be calculated as follows:
• ulc = $10/25 = $0.40 in labor costs to produce
each unit (pound) of the product
What determines e and w?
• The firm can decide f, but the worker
decides e. They both together decide w.
• What is the possible range for w?
• e also depends on w.
The labor market operation
• A firm and an employee are
• But the firm is more independent since the
cost to be unemployed is greater for the
• Cost of job loss (CJL) is the loss of income
a worker experiences as a result of being
laid off.
Cost of job loss
Cjl= (ww-ui)(ud)
Where cjl is cost of job loss,
Ww=previous weekly wage
Ui weekly unemployment insurance
Ud=unemployment duration
E.g: laid off for 16 weeks. Your job paid
$250 a week, UI=50. cjl=(250-50) X
When is cjl high?
• When weekly wages are high, or the next
best alternative (need not be
unemployment insurance) is low.
• The next best alternative is sometimes
called the fallback wage (the wage rate
which you can ‘fall back’ on if you get
unemployed. Fall back wages are
assumed to be lower than or equal to the
wage in the work you are.
Can the firm pay the fallback
• If the firm pays only the fallback wage (let
us say minimum wage), there is no cost to
the worker to quit (especially if jobs are
• So worker may not work!
• Thus employer faces a difficult question:
how to motivate workers to work
The shape of the effort function
• Which function is more likely, why?
Line (II)
per hour,
Line (I)
wage, w
A numerical example
What is the fallback wage?
The labor extraction curve
The slope is the marginal increase in output per dollar paid
The unit labor cost ray
Where are profits maximized?
Unit labor cost, and the labor
extraction model
Notice one important thing
• In order to maximize profits, the firm has to offer
a wage which is higher than the fallback wage.
• This is known as efficiency wages.
• This means that the firm automatically sets it
higher than the rate at which workers are willing
to work.
• This in turn means that there will be
unemployment (shortage of work opportunities)
• Alternative theory for unemployment
Effect of increased unemployment