Competition and Relational Contracts: The Role of Unemployment as a Disciplinary Device

Martin Brown, Armin Falk and Ernst Fehr

No 3345, IZA Discussion Papers from Institute of Labor Economics (IZA)

Abstract: When unemployment prevails, relations with a particular firm are valuable for workers. As a consequence, a worker may adhere to an implicit agreement to provide high effort, even when performance is not third-party enforceable. But can implicit agreements – or relational contracts – also motivate high worker performance when the labor market is tight? We examine this question by implementing an experimental market in which there is an excess demand for labor and the performance of workers is not third-party enforceable. We show that relational contracts emerge in which firms reward performing workers with wages that exceed the going market rate. This motivates workers to provide high effort, even though they could shirk and switch firms. Our results thus suggest that unemployment is not a necessary device to motivate workers. We also discuss how market conditions affect relational contracting by comparing identical labor markets with excess supply and excess demand for labor. Long-term relationships turn out to be less frequent when there is excess demand for labor compared to a market characterized by unemployment. Surprisingly though, this does not compromise market performance.

Keywords: relational contracts; involuntary unemployment (search for similar items in EconPapers)
JEL-codes: C9 D82 E24 J3 J41 (search for similar items in EconPapers)
Pages: 56 pages
Date: 2008-02
New Economics Papers: this item is included in nep-bec, nep-cbe, nep-exp, nep-lab and nep-mac
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Citations: View citations in EconPapers (13)

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Related works:
Journal Article: COMPETITION AND RELATIONAL CONTRACTS: THE ROLE OF UNEMPLOYMENT AS A DISCIPLINARY DEVICE (2012)
Working Paper: Competition and Relational Contracts: The Role of Unemployment as a Disciplinary Device (2011)
Working Paper: Competition and Relational Contracts: The Role of Unemployment as a Disciplinary Device (2008)
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