David Macpherson 10/31/2006
Chapter 8:
The Wage Structure
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page
1. Perfect Competition:
Homogenous Workers
and Jobs
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Homogenous Workers and
Jobs
• Assume that the wage of $10 in Wage rate
submarket a is higher than the S0a
wage in other submarkets.
• Assuming that jobs and S1a
workers are homogenous and
information and mobility is
costless, workers will leave the $10
other submarkets for higher $8
paying submarket a.
• This will decrease the labor
supply in the other submarkets D0a
and increase the labor supply in
submarket a (S0 to S1).
• The equilibrium wage rate will
decrease in submarket a and rise
in the other submarkets until the Q0 Q1 Quantity of
wage rate is the same in all Labor Hours
submarkets ($8).
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David Macpherson 10/31/2006
2. The Wage Structure:
Observed Differential
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Hourly Earnings By
Occupational Group, 2003
Occupational Group Hourly Wage
Management, Business, And Financial $26.24
Installation, Maintenance, And Repair 17.14
Sales Workers 15.89
Office and Administrative Support 13.73
Service Workers 10.96
Farming, Fishing, And Forestry 9.81
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Hourly Earnings By
Industry Group, 2003
Industry Group Hourly Wage
Finance, Insurance, Real Estate, $20.99
Public Administration 20.22
Mining 19.81
Transportation, Warehousing, 19.27
Information, and Utilities
Manufacturing 18.51
Construction 17.31
Services 16.53
Retail Trade 13.21
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David Macpherson 10/31/2006
Private Manufacturing Worker’s
Hourly Earnings By State, 2003
State Hourly Wage
Connecticut $23.13
New Jersey 22.91
Massachusetts 21.44
New York 19.09
Pennsylvania 18.26
Ohio 18.12
Texas 17.53
Arkansas 14.77
Mississippi 13.80
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3. Wage Differentials:
Heterogenous Jobs
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Compensating Differentials
Compensating wage differentials
consist of extra pay that an employer
must provide a worker for some
undesirable job characteristic that does
not exist in alternative employment.
The wage differential is caused by a
decreased labor supply for the job that
has the undesirable job characteristic
and an increased labor supply for the
alternative employment.
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David Macpherson 10/31/2006
Compensating Differentials
Sources of compensating differentials
Risk of job injury or death
Riskier jobs pay higher wages
Fringe benefits
Jobs with greater fringe benefits pay
lower wages
Job status
Jobs with greater prestige pay lower
wages
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Compensating Differentials
Job location
Cities with greater amenities pay
lower wages.
Cities with greater cost of living pay
higher nominal wages.
Job security
Jobs with greater job security pay
lower wages.
Prospect of wage advancement
Jobs with greater wage advancement
have lower starting wages.
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Compensating Differentials
Extent of control over the work place
Jobs with less personal control over
the workplace and less flexible work
hours pay higher wages.
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David Macpherson 10/31/2006
Differing Skill Requirements
Jobs that require more education and
training will pay a higher wage rate
than those that do not.
The wage difference between skilled
and unskilled workers is called the
skill differential.
Skill differentials can increase,
decrease, or reverse wage differences
caused by compensating differentials.
Example: Nurses earn more than ditch
diggers
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Efficiency Wage Payments
Shirking model
Firms will pay above-market wages
where it is costly to monitor employee
performance or the employer’s cost of
poor performance is high.
Turnover model
Firms will pay above-market wages
when hiring and training costs are high.
Empirical evidence
There is mixed empirical evidence.
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Other Job or Employer
Heterogeneities
Union status
Union workers earn more than
nonunion workers.
Most of the differential is an economic
rent to union workers.
Discrimination
Discrimination against women and
minorities exists in some markets and
creates wage differentials.
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David Macpherson 10/31/2006
Other Job or Employer
Heterogeneities
Firm size
Large firms pay higher wages than
small firms.
Large firms are more likely to be
unionized.
Workers at large firms may be more
productive
• Training, better workers, greater capital
Higher wages may be a compensating
wage differential.
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4. Wage Differentials:
Heterogenous
Workers
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NonCompeting Groups
Individuals differ in the type, amount,
and quality of their human capital.
The result is the labor force consists of
noncompeting groups of workers that
are not easily substitutable for each
other.
In the short run, these differences in
human capital generate wage
differentials.
In the long run, the wage differentials
cause individuals to move to higher
paying jobs to some extent.
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David Macpherson 10/31/2006
Differing Preferences
Differences in time preferences
Persons who are presented-oriented (i.e.,
have a high discount rate) are not willing to
sacrifice present consumption without a
large increase in future income.
Persons who are future-oriented (i.e., have
a high discount rate) are willing to sacrifice
present consumption for a small increase in
future income.
Persons with lower discount rates acquire
more human capital and thus create wage
differentials.
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Differing Prefences
Differences in tastes for nonwage aspects
of jobs
People have different preferences for job
security, location, and risk.
These differences in preferences create
wage differentials
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Married vs Single Males
Married males earn 8 to 40% more than
single males.
Possible explanations:
Differing personal attributes.
Characteristics such as personality and
reliability enhance the probability of
being married and also increase one’s
wage.
Greater incentive to acquire human
capital.
Need to help support a family
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David Macpherson 10/31/2006
Married vs Single Males
Lower cost to acquire human capital.
Face a lower interest rate and wives can
help finance education.
Mixed evidence
One study finds that marriage makes
men more productive.
The marriage premium grows with
years married.
Other studies find that differing
personal attributes explain the wage
differential.
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Questions for Thought:
1. Discuss: “Many of the lowest-paid people in the
society—for example, short-order cooks– also
have relatively poor working conditions. Hence,
the theory of compensating wage differentials is
disproved.”
2. Explain why “pay comparability” legislation
requiring that the public sector remunerate
government employees at wages equal to private-
sector counterparts might create excess supplies
of labor in public-sector labor markets.
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5. The Hedonic Theory
of Wages
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David Macpherson 10/31/2006
Indifference Map
Wage Rate
• The “hedonic” indifference map
is composed of a number of
indifference curves.
• Each individual curve shows the
various combinations of wage
rates and a particular nonwage
amenity (for example job safety)
that yield a specific level of total I3
utility. I2
• Each curve to the northeast I1
reflects a higher level of total
utility.
• A steep curve implies that the
person is risk averse—it takes a
large increase in the wage rate
to compensate for a small Nonwage amenity (job safety)
reduction in job safety.
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Isoprofit Curve
• The employer’s isoprofit curve
shows the various combinations Wage Rate
of wage rates and a particular
nonwage amenity (for example
job safety) that yield a given
level of total profit.
• The isoprofit curve gets steeper
with higher levels of job safety
since it gets more and more
expensive to increase job safety.
• Competition among firms will
result in only normal profits
(zero economic profit) in the P
long run.
• Firms will have to make their
wage rate-job amenity decisions
along a curve such as P.
• Firms differ in their ability to Nonwage amenity (job safety)
increase job safety and thus have
different isoprofit curves.
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Matching
• The slope of isoprofit curve PA is
less steep than curve PB,which
implies the marginal cost of job Wage Rate
safety is more expensive at firm
B than at firm A.
• Indifference curve IA is steeper WB B
than curve IB which implies that
person A is more risk averse than
person B. IB
• Workers maximize utility by A
being tangent to the highest WA
possible isoprofit curve. PB
• The risk averse worker will work IA
for the firm able to raise safety at
low marginal cost. The worker PA
will get wage WA and safety SA.
• The risk loving worker will work SB SA
for the firm able to raise safety Nonwage amenity (job safety)
at high marginal cost. The worker
will get wage WB and safety SB.
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David Macpherson 10/31/2006
Labor Market Implications
Workers with fewer nonwage amenities
will get higher wages.
Laws with minimum safety standards may
reduce utility of some workers.
Risk loving workers would prefer higher
wages to greater safety.
Part of the male-female wage differential
may reflect differences in preferences for
nonwage amenities.
Women may prefer shorter commuting
distances and safer jobs.
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Labor Market Implications
Workers with strong preferences for fringe
benefits will match up with firms that can
provide fringe benefits at low cost.
Cafeteria plans which allow workers to
choose from a variety of fringe benefits
allow workers to get higher utility since
they are not forced to accept a fixed bundle.
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6. Wage Differentials:
Labor Market
Imperfections
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David Macpherson 10/31/2006
Wage Rate Distributions
• If information and job search is
costly, then a single equilibrium
wage for a specific occupation is 25%
not likely to occur. 20%
• A range of possible wages will 20%
exist for an occupation. 15% 15%
15%
• In this example, 20 percent of 12% 12%
workers will earn between $6.80
and $6.99 per hour. However, 10% 8% 8%
5% of the workers will earn 5% 5%
between $6.00 and $6.19, while 5%
another 5% will earn between
$7.60 and $7.79. 0%
Wage Rate
• These wage differentials will
not cause job switching since
the expected marginal benefits 6.0 6.2 6.4 6.6 6.8 7.0 7.2 7.4 7.6
of the higher wage are exceeded
by the expected marginal cost of
obtaining the information.
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Lengthy Adjustment
• An increase in labor demand
Period
initially may cause a substantial
wage increase to W0 in Wage Rate
occupations with lengthy
training periods.
W0
• But the supply response to
higher wage may create surplus W2
of labor to the occupation in the
next period, driving the wage We
We
rate lower to W1.
• For a time the wage rate may W3
oscillate above and below the W1
long-run equilibrium wage rate
We before equilibrium in the
market is finally restored.
• During the transition periods,
wage differentials between this
occupation and others paying We Units of Time
will be observed.
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Immobilities
Labor immobilities are impediments to the
movement of labor and can cause wage
differentials.
Geographic immobilties
Costs to moving can deter migration and
thus permit wage differentials to exist
across geographic areas.
Institutional immobilties
Restrictions on mobility imposed by the
government or unions can deter mobility.
Occupational licensing, apprenticeships
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David Macpherson 10/31/2006
Immobilities
Sociological immobilties
Race and gender discrimination will cause
racial and gender wage differentials to
exist.
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Questions for Thought:
1. Suppose that (a) employees must pay higher
wages to attract workers from wider geographic
areas and hence higher wages are associated
with longer commuting distances (less of the
amenity “closeness of job to home”) and (b)
females have greater tastes for having jobs close
to their homes than males. Use the hedonic wage
model to show graphically why a male-female
wage differential might emerge, independently
of skill differences or gender discrimination.
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End
Chapter 8
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