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ECON 381. Compensating differentials. We have talked about how workers care about non-wage job characteristics

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econ 381

ECON 381

Compensating differentials

slide2

We have talked about how workers care about non-wage job characteristics

  • We also talked about the “fixed wage” model, in which the straight-time wage adjusts to offset the overtime premium. The idea is that workers care about the overall value of their compensation package
  • What is the relationship between non-wage job characteristics and wages? Do lousy jobs pay more to compensate workers for bad conditions? How are non-wage job characteristics priced in the labour market?
workers preferences
Workers’ preferences
  • Consider a job that has two characteristics, a wage and something else (e.g. safety, hours of work, prestige),. Let’s take the example of risk, R.
  • Both of the characteristics affect workers’ utility:
indifference curves
Indifference curves
  • Negative slope
  • Convex
  • Don’t cross
  • U0>U1>U2

W

U0

U1

U2

S

indifference curves1
Indifference curves

Who is more risk-averse?

A is willing to give up more wages than B in exchange for a given increase in safety.

A values safety more, i.e. she is more risk-averse.

W

S

firms iso profit functions1
Firms’ iso-profit functions

Which firm can provide

safety least expensively?

Firm B requires a larger reduction in the wage rate to offset the costs of providing one more unit of safety.

B can provide safety least expensively.

W

S

equilibrium one firm one worker
Equilibrium – one firm, one worker
  • Competitive equilibrium – firms make zero profits
  • Equilibrium at tangency point

W

W*

S

S*

equilibrium two firms two workers
Equilibrium – two firms, two workers

Which worker is matched with which firm?

Why?

Person A likes safety more. She is matched to Firm A, which can provide safety at lower cost.

W

S

equilibrium many firms many workers
Equilibrium – many firms, many workers

Locus of tangencies traces out hedonic relationship between wages and safety.

Slope of hedonic relationship is the market price of safety.

W

S

minimum safety standards
Minimum safety standards

Minimum safety standard = Smin.

W

S

Smin

minimum safety standards1
Minimum safety standards

Minimum safety standard = Smin.

W

S

Smin

minimum safety standards2
Minimum safety standards

Minimum safety standard = Smin.

Firm C goes out of business.

W

S

Smin

minimum safety standards3
Minimum safety standards

Minimum safety standard = Smin.

Worker C gets lower utility.

W

S

Smin

minimum safety standards4
Minimum safety standards
  • Does this mean that occupational health and safety regulations are a bad idea?

Prof. Simon D. Woodcock

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