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  3. American Economic Review
  4. May 2012
  5. Contract Form, Wage Flexibility, and Employment

American Economic Review

ISSN 0002-8282 (Print) | ISSN 1944-7981 (Online)

Contract Form, Wage Flexibility, and Employment

  • Thomas Lemieux
  • W. Bentley MacLeod
  • Daniel Parent
American Economic Review
vol. 102, no. 3, May 2012
(pp. 526–31)
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Abstract

We begin with two uncontroversial hypotheses - firm productivity is expensive to measure and employment entails relationship-specific investments. These assumptions imply that firms would optimally choose fixed-wage contracts, and complement these with bonus pay when measuring employee performance is not too costly. These assumptions imply that under an optimal employment contract hours of work is less responsive, while total compensation is more responsive to shocks under bonus-pay contracts compared to fixed wage contracts. Using data from the Panel Study of Income Dynamics (PSID) where shocks are proxied using the local unemployment rate, we find strong support for these two implications.

Citation

Lemieux, Thomas, W. Bentley MacLeod, and Daniel Parent. 2012. "Contract Form, Wage Flexibility, and Employment." American Economic Review, 102 (3): 526–31. DOI: 10.1257/aer.102.3.526

Additional Materials

JEL Classification

  • E24 Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital
  • J31 Wage Level and Structure; Wage Differentials
  • J41 Labor Contracts
  • D82 Asymmetric and Private Information
  • E32 Business Fluctuations; Cycles