Insider Bargaining Power, Starting Wages, and Involuntary Unemployment

Recent analyses of wage bargaining has emphasized the distinction between insiders and outsiders, yet one typically assumes that insiders and recently hired outsiders are paid the same wage. We consider a model where the starting wage for outsiders may be lower than the insider wage, but incentive constraints associated with turnover affect the form of the contract. We examine under what conditions the starting wage is linked to the insider wage so that increased bargaining power of insiders raises the starting wage and reduces hiring of outsiders.

Introduction: Much recent research on wage formation and unemployment has focused on the distinction between insiders and outsiders in the labor market. A common theme is that employed workers (insiders) have bargaining power that allows them to demand high wages although there are unemployed outsiders queuing for jobs. The more bargaining power insiders have, the higher are wages and the lower is employment. But the link between insider bargaining power and employment is due to an ad hoc constraint that is typically imposed on the wage contract: all workers are paid the same wage. Thus, the wage that insiders get is also the wage at which firms hire outsiders.

Author: Nils Gottfries,Tomas Sjöström

Source: Department of Economics,Uppsala University

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