sources of intra industry wage dispersion how much do employers matter observed human capital explains less than half of wage variation in bls industry wage surveys establishment based wage differentials controlling for occupation account for 20 70 percent of intra industry wage variation this corresponds to a standard deviation in wages of 14 percent of the mean almost as large as interindustry wage variation investigation suggests that establishment wage differentials are not random variations or returns to usual measures of human capital

standard promotion practices versus up or out contracts this article develops a theory concerning the choice between standard promotion practices and up or out contracts our theory is based on asymmetric learning and promotion incentives we find that firms employ up or out contracts when firm specific human capital is low and standard promotion practices when it is high we also find that if commitment to a wage floor is feasible and effort provision is important up or out is employed when low and high level jobs are similar these results are consistent with many of the settings in which up or out is typically observed such as law firms and academia

two sided uncertainty and up or out contracts a bilateral moral hazard problem provides a rationale for up or out employment contracts the employer sets a wage higher than opportunity cost to induce the worker to invest in firm specific capital if the individual does not make the grade it is in the firm s interest ex post to fire him had the initial arrangement not included provisions for firing individuals the firm would underreport the value of the employee wrecking the incentive scheme the basic model permits both firm and worker to be risk neutral therefore it admits a straightforward multiperiod extension which we also investigate

learning theory and the logic of critical mass the oliver marwell theory of critical mass is a prominent solution to the free rider problem that plagues collective action in large groups i reformulate the theory as a stochastic learning model in which cooperative responses are shaped by the social sanctions and cues generated by the responses of others this relaxes four assumptions in the original formulation that the actors are rational decisions are isolated events outcomes are deterministic and public goods have pure jointness of supply and collective profit computer simulations then show how adaptive actors become trapped in a suboptimal equilibrium and how they escape through attainment of critical mass start up problems arise from accommodation to social costs and not from low returns to early contributors as previously believed simulations also identify a new dilemma of group size and show why solidarity tends to emerge in response to crisis finally normative solidarity appears to be a consequence rather than cause of critical mass but may promote recovery from random deviance

relational contracts limited liability and employment dynamics this paper studies a relational contracting model in which the agent is protected by a limited liability constraint the agent s effort is his private information and affects output stochastically we characterize the optimal relational contract and compare the dynamics of the relationship with that under the optimal long term contract under the optimal relational contract the relationship is less likely to survive and the surviving relationship is less efficient in addition relationships always converge to a steady state under the optimal long term contract but they can cycle among different phases under the optimal relational contract

uncertainty and incentives empirical work testing for a trade off between risk and incentives has had at best mixed success this article provides two simple reasons associated with subjectivity of performance appraisals why we might not expect to see any negative relationship both reasons relate to empirically observed problems associated with monitoring i supervisors sometimes bias their evaluations based on their personal feelings toward their subordinates and ii supervisors will sometimes offer evaluations that reduce their costs these aspects of monitoring are ignored in the standard model and can reverse the usual negative trade off between risk and incentives

vertical multinationals and host country characteristics abstract we inquire into the question of what country characteristics particularly market size and labor force composition attract inward investment this approach is motivated by the empirical observation that the poorest countries attract a far smaller share of world direct investment than their share of income small markets receive less investment per capita than larger ones we develop a model that generates both stylized facts in equilibrium suggesting the existence of a development trap for small skilled labor scarce countries

over education across british regions lenton p over education across british regions regional studies this paper analyses levels of over education and wage returns to education for males across eleven regions of the uk using labour force survey data significant differences are found in the probability of being over educated across regions also differences are found in the return to the correct level of education in each region in each case associated with flexibility of movement between and into particular regions which determines the ease of job matching furthermore evidence is found that after controlling for the level of education acquired there exists a premium to the correct level of education which varies across uk regions lenton p 11 over education lenton p la sureducation a travers les regions e

uncertainty electoral incentives and political myopia we study the determinants of political myopia in a rational model of electoral accountability with informational frictions and uncertainty when politicians ability is ex ante unknown and policy choices are unobservable elections improve political accountability and selection however incumbents underinvest in costly policies with future returns to signal high ability and increase re election probability surprisingly uncertainty reduces political myopia and may increase social welfare we also address the socially optimal political rewards and the desirability of a one term limit our predictions are consistent with several stylised facts and with a new empirical observation aggregate uncertainty is positively correlated with fiscal discipline

subjective performance measures in optimal incentive contracts objective measures of performance are seldom perfect in response incentive contracts often include important subjective components that mitigate incentive distortions caused by imperfect objective measures this paper explores the combined use of subjective and objective performance measures in respectively implicit and explicit incentive contracts naturally objective and subjective measures often are substitutes sometimes strikingly so we show that if objective measures are sufficiently close to perfect then no implicit contracts are feasible because the firm s fallback position after reneging on an implicit contract is too attractive we also show however that objective and subjective measures can reinforce each other if objective measures become more accurate then in some circumstances the optimal contract puts more weight on subjective measures because the improved objective measures increase the value of the ongoing relationship and so reduce the firm s incentive to renege we also analyze the use of subjective weights on objective performance measures and provide case study evidence consistent with our analyses

rewarding performance by promotion to a different job abstract use of promotions rather than performance related pay to provide incentives can be justified if performance is non verifiable information this does not explain why promotion is to a different job rather than simply a better paid job the effectiveness of tournaments is undermined however if unsuccessful workers are equally suited to higher paid jobs and can engage in bribery or other influence activity a promotion based reward structure with pay tied to jobs can be made immune to such activity if misallocations of employees to jobs are costly to the firm

job independence as an incentive device a firm can either subject its workers to strict rules and regulations or grant them independence if independent they can make entrenchment investments which will not only raise their productivity but also make the firm depend on their cooperation however in contrast to a standard holdup problem the firm can afterwards take over control thus stripping such workers of a part of their bargaining assets this leads to structural distortions and may aggravate the holdup problem however the threat of partial expropriation may also alleviate the holdup problem and even induce overinvestment

incentives in organizations n 1975 steven kerr published on the folly of rewarding a while hoping for b the argument was simple you get what you pay for kerr distilled this unifying theme from a disparate set of examples involving politicians soldiers doctors orphanage directors professors and students as well as manufacturing and clerical employees and even human resource managers from these examples kerr pp 77980 concluded that two main causes of distorted incentives are fascination with an objective criterion where individuals seek to establish simple quantifiable standards against which to measure and reward performance and overemphasis on highly visible behaviors when some parts of the task are highly visible while others are not it took agency theory 15 years to express kerr s title not to mention to evaluate or extend his conclusions during this period agency theory was obsessed with the tradeoff between incentives and insurance even though clear eyed observations like kerr s about the design and performance of real incentive contracts suggested that several other issues are at least as important fortunately recent work has brought agency theory not only to kerr s position but beyond in this paper i summarize four new strands in agency theory that help me think about incentives in real organizations as a point of departure i begin with a quick sketch of the classic agency model i then discuss static models of objective performance measurement that sharpen kerr s argument repeated game models of subjective performance assessments incentives for skill development rather than simply for effort and incentive contracts between versus within organizations i con

promotion turnover and discretionary human capital acquisition this article explores human capital acquisition decisions when job placement helps determine competition for a worker with asymmetric information workers may invest in firm specific capital without long term contracts specific investment increases promotion chances and hence wage competition shifting competition back to a time when firms are symmetrically uninformed if general human capital is the efficient output maximizing investment then an equivalent firm specific investment maximizes expected career wages this is a general result for sellers in second price auctions sellers of labor invest to maximize the expected second highest bidder valuation wage not the winner s expected valuation

the complex integration strategies of multinationals and cross country dependencies in the structure of foreign direct investment abstract the behavior of many multinational enterprises is not well described by existing models of foreign direct investment fdi firms often follow strategies that involve vertical integration in some countries and horizontal integration in others a strategy known as complex integration this paper presents a three country model that is used to analyze why firms might follow a strategy of complex integration my analysis reveals that complex integration strategies create complementarities between potential host countries that have important implications for the structure of fdi the analysis also shows that falling transport cost between countries may increase the importance of complex integration strategies

risk perception in psychology and economics abstract the concept of rationality has been basic to most economic analysis its content has been successively refined over the generations as applied to the static world of certainty it has turned out to be a weak hypothesis not easily refuted and therefore not very useful as an explanation though not literally a tautology but recent decades have seen the development of stronger versions applied to a world in which time and uncertainty are real among its most important manifestations have been criteria for consistency in allocation over time the expected utility hypothesis of behavior under uncertainty and what may be termed the bayesian hypothesis for learning that is the consistent use of conditional probabilities for changing beliefs on the basis of new information these hypotheses have been used widely in offering explanations of empirically observed behavior though as not infrequently in economics the theoretical development has gone much further than the empirical implementation these hypotheses have also been used increasingly in normative analysis as a component of benefit cost studies therefore frequently referred to as benefit risk studies the value of reducing mortality rates from diseases for example has been studied by assuming that choice of occupations is made inter alia by comparing wage differences with mortality differences

export platform foreign direct investment theory and evidence this paper proposes a model that accounts for export platform fdi a form of fdi that is common in the data but rarely discussed in the theoretical literature unlike the previous literature this paper s theory nests all the typical modes of supply including exports horizontal and vertical fdi horizontal and vertical export platform fdi the theory yields the testable hypothesis that a decrease in either inter regional or intra regional trade costs induces firms to choose export platform fdi the empirical analysis provides descriptive statistics that point to large proportions of third country exports of us fdi and an econometric analysis whose results are in line with the model s predictions the paper suggests policy implications for nations seeking to attract fdi

non commitment in performance evaluation and the problem of information distortions abstract auditing is modeled in a sequential game without commitment the manager must decide whether and where to audit a worker s output taking into account all interim information he has obtained the worker will work just hard enough and show it to divert the manager from making an audit or cover up withholding information about his work to make an audit more difficult this usually raises the costs of setting work incentives so incentives are softened sometimes drastically moreover when a worker s on the job information is valuable for entrepreneurial decisions work incentives must be softened to improve the internal flow of information

disequilibrium economic dynamics a post schumpeterian contribution abstract adaptive economizing in a decentralized economy with alternative technologies and scarce resources leads to various kinds of locally unstable behavior economic disequilibrium is the rule in such a world and requires the presence of market mechanisms that make possible continued viability if in addition to local instability economies are also globally unstable as considerable evidence suggests then the discovery and application of new structure is essential a complete dynamic theory of economic change must therefore be based not only on conventional rationality and routinely adapting behavior but on a superior faculty which may perhaps best be called creative intelligence

a theory of wage and promotion dynamics inside firms we show that a framework that integrates job assignment human capital acquisition and learning captures several empirical findings concerning wage and promotion dynamics inside firms including the following first real wage decreases are not rare but demotions are second wage increases are serially correlated third promotions are associated with large wage increases fourth wage increases at promotion are small relative to the difference between average wages across levels of the job ladder fifth workers who receive large wage increases early in their stay at one level of the job ladder are promoted quickly to the next

discretion and bias in performance evaluation most of the economics literature on compensation and organizations builds from the theory of agency for the most part the literature analyzes situations in which agents performance can be controlled by tying compensation to objective performance measures such as output or sales it ignores the fact that most compensation arrangements involve superiors subjectire and hence non contractible judgements about employee performance in our view much of what is interesting about actual employment relations follows from the observation that performance appraisal is a process by which humans judge other humans milkovich and wigdor 1991 this paper studies the implications of subjective performance evaluation for compensation policies and for the efficiency of employment relations our objectives are two fold first we propose the importance of subjectivity of evaluations to better understand organizatlonal practices such as politicking favoritism and compression of wage scales second we hope to orient the study of subjective performance evaluation in ways that are consistent with empirical evidence on what organizations actually do

incentives between firms and within this paper reviews the significant progress in agency theory i e the economic theory of incentives during the 1990s with an eye toward applications to supply transactions i emphasize six recent models in three pairs 1 new foundations for the theory of incentive contracts 2 new directions in incentive theory and 3 new applications to supply transactions by reviewing these six models i hope to establish three things first the theory of incentive contracts needed and received new foundations second new directions in incentive theory teach us that incentive contracts are not the only source of incentives finally and especially relevant to supply transactions the integration decision is an instrument in the incentive problem

comments on arrow and on lucas such a number of interesting and provocative things are put forward in lucas and in arrow in this issue that i would like to be able to dissect them in detail for example lucas states that the problem of controlling inflation has been successfully solved in a scientific sense p s405 i am tempted to explore the limits of the set of problems that might be said to be scientifically solved in the lucas sense but i fear that this would take up a good deal of space arrow deplores the use of homogeneity assumptions as a device for adding content to otherwise inconclusive economic theories but presumably he does not believe that the sonnenschien mantel debreu theorem is the ultimate conclusion regarding the useful content of the propositions of general equilibrium theory some restrictions of intermediate strength are presumably called for and i would like to make the case that strong empirical generalizations about the nature of human actors such as those describing the biological requirements for survival are available and relevant in this connection this too would take some space to develop in detail though not as much as the first subject given the constraints i must choose a focus i will focus on what i take to be the main message that lucas has put forward regarding the relationship between adaptive behavior and the rationality assumptions employed in standard economic theory this message is recognizable as the intellectual descendant of similar discussions by friedman and machlup in the 1940s and 1950s and the ideas involved remain extremely influential in the discipline today i will present and comment on my own statement of this position which i following blaug 1980 will call the classic defense of the rationality as

job assignments signalling and efficiency this article analyzes a model in which information about a worker s ability is only directly revealed to the firm employing the worker other firms however use the worker s job assignment as a signal of ability three results recur throughout the analysis first wage rates tend to be more closely associated with jobs than with ability levels second there is frequently an inefficient assignment of workers to jobs i e even when a firm has complete information about a worker s output third the severity of this inefficiency tends to be negatively correlated with the level of firm specific human capital in the economy

cohort effects in promotions and wages evidence from sweden and the united states abstract this paper studies the long term effects of the business cycle on workers future promotions and wages using the swedish employer employee matched data we find that a cohort of workers entering the labor market during a boom gets promoted faster and reaches higher ranks this procyclical promotion cohort effect persists even after controlling for workers initial jobs and explains at least half of the wage cohort effects that previous studies have focused on we repeat the same analyses using personnel records from a single u s company and obtain the same qualitative results

training and worker effort a signalling perspective this paper analyzes the interaction between firms investment in general skills training and workers incentives it shows that when a firm has an informational advantage over its workers its provision of free general skills training can serve as a signal that there will be a long term relationship between the firm and its workers this signal induces the workers to exert more effort in learning firm specific skills which enhances the firm s profits in contrast with most of the existing literature the model implies that firms may provide free general skills training even if there is no labour market friction ce memoire analyse l interaction entre l investissement des entreprises dans l acquisition d habiletes generales de leurs employes et les incitations des travailleurs a fournir un effort on montre que quand une firme a un avantage informationnel sur ses travailleurs le fait de fournir gratuitement de la formation qui permette aux employes d acquerir des habiletes generales peut servir de signal qu il va y avoir une relation a long terme entre la firme et ses travailleurs ce signal incite les travailleurs a investir plus d effort dans l acquisition d habiletes specifiques a la firme ce qui augmente les profits de l entreprise ce modele en porte a faux par rapport au gros de la litterature existante suggere que les entreprises peuvent fournir gratuitement de la formation permettant aux employes d acquerir des habiletes generales meme s il n y a pas de friction dans le marche du travail

promotion rules and skill acquisition an experimental study standard economic theory identifies a trade off between up or stay and up or out promotion rules up or stay never wastes the skills of those not promoted but may provide insufficient incentives to invest in skills up or out can always induce investment in skill acquisition but may waste the skills of those not promoted the paper reports an experiment designed to study this trade off under up or out parties behave almost exactly as theory predicts but under up or stay and stay or stay results differ markedly from theoretical predictions in that case workers invest rather frequently although the prediction is that they would not these deviations can be explained by various reciprocity mechanisms

the provision of incentives in firms i ncentives are the essence of economics despite many wide ranging claims about their supposed importance there has been little empirical assessment of incentive provision for workers the purpose of this paper is to critically overview existing work on the provision of incentives since the interests of workers and their employers are not always aligned a large theoretical literature has emphasized how firms design compensation contracts to induce employees to operate in the firm s interest this literature has reached into many areas of compensation and has pointed to a multitude of different mechanisms that can be used to induce workers to act in the interests of their employers these include piece rates options discretionary bonuses promotions profit sharing efficiency wages deferred compensation and so on my objective here is to evaluate this literature in the light of a growing empirical literature on compensation where possible i will address the literature from two perspectives first an underlying assumption of this literature is that individuals respond to contracts that reward performance accordingly i consider whether agents behave in this way and whether these responses are always in the firm s interest second i address whether firms write contracts with these responses in mind in other words do contracts look like the predictions of the theory incentives are provided to workers

classic promotion tournaments versus market based tournaments as initially formulated in the seminal analysis of lazear and rosen 1981 an important perspective for understanding the role of promotions in firms is the tournament perspective that is a promotion and in particular the wage increase associated with a promotion is a prize that serves as an incentive for workers to exert effort and take other actions beneficial to the firm such as the accumulation of human capital in this paper i consider whether the best way to model promotion tournaments is by having firms commit to prizes ex ante as in lazear and rosen s initial formulation or whether promotion prizes should be modeled as arising from the signaling role of promotions and the competition between firms for promoted workers

do new brooms sweep clean when and why dismissing a manager increases the subordinates performance abstract if a manager stays in office for a long time he will have learned much about his subordinates thus competition among them will be weak as the manager has made up his mind who is suited best for which position with a new manager the race for favorable tasks is restarted leading subordinates to exert higher effort but for the firm owner the trade off arises that with a new manager effort is larger but the quality of task allocation is worse since information is lost the optimal dismissal policy will be nonmonotonic in the expected heterogeneity of the subordinates abilities

the role of promotion in inducing specific human capital acquisition workers routinely carry out activities that increase their productivity with their current employer for which they are not directly compensated for example a worker may be asked to develop relationships with clients or shop floor staff or he may develop a better understanding of how his firm operates firmspecific human capital of this type is difficult to quantify so that it is likely to be difficult to directly compensate the worker for its acquisition this paper is concerned with designing compensation schemes for employees to induce them to collect nonverifiable firm specific human capital if firms develop reputations for fairly compensating workers for skill collection the vagueness of these skills may not provide a significant incentive problem i consider the case where firms do not have the opportunity to develop reputations as a result the acquisition of human capital is subject to a dual moral hazard problem first noted in kahn and huberman 1988 first a worker only collects skills if there is a promise of a higher wage if he does so second the employer has an incentive to claim that the worker has not collected these skills even when he in fact has in order to save on wage costs so on the one hand it is difficult to repay the worker after skills are collected as the firm has an incentive to renege however the worker cannot be repaid before collecting skills as he has no subsequent incentive to collect them following the institutional literature i assume that the firm can commit to a labor contract which attaches wages to different tasks the principal purpose of the paper is to show that the firm can use this ability to commit to a wage scale for different tasks to induce a worker to collect firm specific human capital in the presence of this dual moral hazard problem where the worker is rewarded for skill acquisition by promotion to another job assume that a worker can be assigned to one of two jobs d and

work incentives hierarchy and internal labor markets this paper argues that contracts with payment based on a ranking of employee performance can provide performance incentives even under asymmetric information that prevents payment based on individual performance only being enforceable such contracts also fit with five features of labor markets that have aroused considerable interest 1 hierarchical wage structures 2 internal promotion 3 wage rates that rise with seniority and experience more than productivity 4 the variance of earnings increasing with experience and 5 wage rates attached to jobs rather than individuals with differentials set by administrative procedures rather than by reference to external market wages

job protection versus contracts at will trading off entrenchment and shirking i take an efficient contracting approach to answer the question how much job protection to offer employees in particular those at the top of organizations given their privileged information or formal authority senior managers who are not given such protection are likely to take opportunistic actions that make them less dispensable the optimal employment contract trades off the resulting inefficiencies that arise from such self made job security with the reduced incentives and higher compensation costs under explicit employment protection one implication of the model is that more senior managers such as ceos should receive both higher rents and more protection e g through contracts that are explicitly not at will or that specify a longer duration

learning by drilling interfirm learning and relationship persistence in the texas oilpatch author s kellogg ryan m abstract production in many industries such as construction and heavy manufacturing relies on inputs from both lead firms and contractors these firms joint productivity often hinges on their ability to share information and coordinate activities suggesting that they have strong incentives to learn about each other s personnel procedures and expertise this learning differs from standard learning by doing in that it is relationship specific its benefits are not appropriable outside the relationship in which the learning takes place in this paper i empirically examine the importance of relationship specific learning using high frequency data from oil and gas drilling i find that the joint productivity of a lead firm and its drilling contractor is enhanced significantly as they accumulate experience working together this result is robust to other relationship specificities i also find that firms appear to recognize the benefits of joint experience controlling for other specificities lead firms are more likely to work with contractors with which they have substantial prior experience than those with which they have worked relatively little

an opposing responses test of classic versus market based promotion tournaments we use a systems based econometric method to show that classic and market based tournament models are empirically distinguishable since the role of risk differs across these models implementing the method using a large finnish worker firm matched panel we find support for classic tournaments given that promotions depend on relative performance the firm s wage structure is convex promotion probabilities are decreasing in the number of competitors performance is increasing in the wage spread and workers and firms adjust their choice variables in opposite directions when the variance of the stochastic component of worker performance changes

does economic integration cause foreign direct investment the authors analyze the effect of economic integration on oligopolists international trade and foreign direct investment activities using a three country three firm model increased country size leads to dispersed foreign direct investment while improved market accessibility leads to export platform foreign direct investment increased intraregional market accessibility prompts outside firms to invest in the regional bloc reducing product prices profits of intrabloc firms and increasing total surplus integrating economies are more likely to gain from improving intraregional market accessibility than from tougher external trade policy and may wish to offer investment incentives to encourage foreign direct investment by outside firms copyright 1996 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

incentives wages and promotions theory and evidence i study an incentive problem that has been largely ignored in the agency literature incentives for repeated human capital investment the optimal contract is very simple but still provides rich implications for incentive and wage structures in large organizations the empirical evidence is presented using personnel records of health insurance claim processors in a large u s insurance company these processors are white collar nonmanagerial female service industry workers a rapidly growing but rarely studied labor group the empirical findings are consistent with the main features of the optimal contract

the firm as the locus of social comparisons standard promotion practices versus up or out we suggest a parsimonious dynamic agency model in which workers have status concerns a firm is a promotion hierarchy in which a worker s status depends on past performance we investigate the optimality of two types of promotion hierarchies i standard promotion practices where agents have a job guarantee and ii up or out in which agents are fired when unsuccessful we show that up or out is optimal if success is difficult to achieve when success is less hard to achieve standard promotion practices are optimal provided the payoffs associated with success are moderate otherwise up or out is again optimal

economic history and economics i have in the back of my mind a picture of the sort of discipline economics ought to be or at least the sort of discipline i wish it were if economics were practiced in that way there would be nothing problematical about its reciprocal relationship with economic history it would be pretty clear what it is that economic theory offers to economic history and what economic history offers to economic theory i will try to describe what i mean below for better or worse however economics has gone down a different path not the one i have in mind one consequence not the most important one but the one that matters for this discussion is that economic theory learns nothing from economic history and economic history is as much corrupted as enriched by economic theory i will come to that too later on you will notice that i am using strong language i am prepared to admit right away that i may be dead wrong in my judgements but there is no point in pussyfooting bluntness may lead to an interesting discussion after all no one would remember the old german historical school if it were not for the famous methodenstreit actually no one remembers them anyway there must be a lesson in that to get right down to it i suspect that the attempt to construct economics as an axiomatically based hard science is doomed to fail there are many partially overlapping reasons for believing this but since that is not the topic under discussion today i do not have to lay them out in an orderly way i hope the following hodgepodge will convey what i mean a modern economy is a very complicated system since we cannot conduct controlled experiments on its smaller parts or even observe them in isolation the classical hardscience devices for discriminating between competing hypotheses are closed to us the main alternative device is the statistical analysis of historical time series but then another difficulty arises the competing hypotheses are themselves complex and subtle we know before we start that all of them or at least many of them are capable of fitting the data in a gross sort of way then in order to make more refined distinctions we need long time series observed under stationary conditions unfortunately however economics is a social science it is subject to damon runyon s law that nothing between human beings is more than three to one to express the point more formally much of what we observe cannot be treated as the realization of a stationary stochastic process without straining credulity moreover all narrowly economic activity is embedded in a web of social institutions customs beliefs and attitudes concrete outcomes are indubitably affected by these background factors some of which change slowly and gradually others erratically as soon as time series get long enough to offer hope of discriminating among complex hypotheses the likelihood that they remain stationary dwindles away and the noise level gets correspondingly high under these circumstances a little cleverness and persistence can get you almost any result you want i think that is why so few econometricians have ever been forced by the facts to abandon a firmly held belief indeed some of fortune s favorites have been known to write scores of empirical articles without once feeling obliged to report a result that contradicts their prior prejudices if i am anywhere near right about this the interests of scientific economics would be better served by a more modest approach there is enough for us to do without pretending to a degree of completeness and department of economics massachusetts institute of technology cambridge ma 02139

adaptive behavior and economic theory the relationship between psychological and economic views of behavior once a subject of heavy dispute is now understood in a very similar way by practitioners of both these disciplines and of our sister social sciences in general terms we view or model an individual as a collection of decision rules rules that dictate the action to be taken in given situations and a set of preferences used to evaluate the outcomes arising from particular situation action combinations these decision rules are continuously under review and revision new decision rules are tried and tested against experience and rules that produce desirable outcomes supplant those that do not i use the term adaptive to refer to this trial anderror process through which our modes of behavior are determined if one is interested in modeling particular decisions in any very explicit way it is obviously necessary to think about rather narrow aspects of an individual s entire set of decision rules his or her personality experimental psychology has traditionally focused on the adaptive process by which decision rules are replaced by others in this tradition the influence of the subject s or as an economist says the agent s preferences this essay uses a series of examples to illustrate the use of rationality and adaptation in economic theory it is argued that these hypotheses are complementary and that stability theories based on adaptive behavior may help to narrow the class of empirically interesting equilibria in certain economic models an experiment is proposed to test this idea

the layoff rat race we investigate how discretionary investments in general and specific human capital are affected by the possibility of layoffs after investments are made firms may have to lay off workers and will do so in inverse order of the profit that each worker generates greater skill investments especially in specific human capital contribute more to a firm s bottom line so that workers who make those investments will be laid off last we show that as long as workers bargaining positions are not too weak workers invest in specific human capital in order to reduce layoff probabilities indeed workers over invest in skill acquisition from a social perspective whenever their bargaining power is strong enough even though they only receive a share of any investment more generally we characterize how equilibrium skill investments are affected by the distribution of worker abilities within firms the probability that a firm will downsize and the distribution of employment opportunities in the economy

rationality of self and others in an economic system in this paper i want to disentangle some of the senses in which the hypothesis of rationality is used in economic theory in particular i want to stress that rationality is not a property of the individual alone although it is usually presented that way rather it gathers not only its force but also its very meaning from the social context in which it is embedded it is most plausible under very ideal conditions when these conditions cease to hold the rationality assumptions become strained and possibly even self contradictory they certainly imply an ability at information processing and calculation that is far beyond the feasible and that cannot well be justified as the result of learning and adaptation let me dismiss a point of view that is perhaps not always articulated but seems implicit in many writings it seems to be asserted that a theory of the economy must be based on rationality as a matter of principle otherwise there can be no theory this position has even been maintained by some who accept that economic behavior is not completely rational john stuart mill 1909 bk 2 ch 4 argued that custom not competition governs much of the economic world but he adds that the only possible theory is that standard economic doctrine makes assumptions of rationality that have very strong implications for the complexity of individuals decision processes the most complete assumptions of competitive general equilibrium theory require that all future and contingent prices exist and be known in fact of course not all these markets exist the incompleteness of markets has several side consequences for rationality for one thing each decision maker has to have a model that predicts the future spot prices this is an informational burden of an entirely different magnitude than simply optimizing at known prices it involves all the complexity of rational analysis of data and contradicts the much praised informational economy of the price system it is also the case that equilibria become much less well defined similar problems occur with imperfect competition this research was supported by the office of naval research grant onr n00014 79 c 0685 at the center for research in organizational efficiency institute for mathematical studies in the social sciences stanford university stanford california

exchangeability and its economic applications abstract the symmetry possessed by exchangeability is the key to its usefulness the methods that are used to comprehend reality will edify insofar as they reflect this symmetry this is true of theoretical models empirical methods and algorithms indeed if the design of mechanisms is by rearrangement of natural matter their survival value will depend on the degree to which they retain the symmetry of the original matter this comment encompasses complex machinery and sophisticated political social and economic institutions the paper simply embroiders this observation

general training by firms apprentice contracts and public policy workers will not pay for general on the job training if contracts are not enforceable firms may if there are mobility frictions private information about worker productivities however prevents workers who quit receiving their marginal products elsewhere their new employers then receive external benefits from their training in this paper training firms increase profits by offering apprenticeships which commit firms to high wages for those trainees retained on completion at these high wages only good workers are retained this signals their productivity and reduces the external benefits if they subsequently quit regulation of apprenticeship length a historically important feature enhances efficiency appropriate subsidies enhance it further

the impact of minimum wages on job training an empirical exploration with establishment data human capital theory suggests that workers may finance on the job training by accepting lower wages during the training period minimum wage laws could reduce job training then to the extent they prevent low wage workers from offering sufficient wage cuts to finance training empirical findings on the relationship between minimum wages and job training have failed to reach a consensus previous research has relied primarily on survey data from individual workers that typically lack both detailed measures of job training and important information about the characteristics of firms this study addresses the issue of minimum wages and on the job training with a unique employer survey we find no evidence indicating that minimum wages reduce the average hours of training of trained employees and little to suggest that minimum wages reduce the percentage of workers receiving training

relational knowledge transfers an expert must train a novice the novice initially has no cash so he can only pay the expert with the accumulated surplus from his production at any time the novice can leave the relationship with his acquired knowledge and produce on his own the sole reason he does not is the prospect of learning in future periods the pro t maximizing relationship is structured as an apprenticeship in which all production generated during training is used to compensate the expert knowledge transfer takes a simple form in the rst period the expert gifts the novice a positive level of knowledge which is independent of the players discount rate after that the novice s total value of knowledge grows at the players discount rate until all knowledge has been transferred the ine ciencies that arise from this contract are caused by the expert s arti cially slowing down the rate of knowledge transfer rather than by her reducing the total amount of knowledge eventually transferred we show that these ine ciencies are larger the more patient the players are finally we study the impact of knowledge externalities across players

the economics of private sector training a survey of the literature abstract this survey organizes and summarizes existing theoretical work on private sector training the theoretical models focus on investment efficiency finance and turnover recent developments in the on the job training literature are characterized by strategic interaction between employers and employees and emphasize market imperfections

performance promotion and the peter principle this paper considers why organizations use promotions rather than just monetary bonuses to motivate employees even though this may conflict with efficient assignment of employees to jobs when performance is unverifiable use of promotion reduces the incentive for managers to be affected by influence activities that would blunt the effectiveness of monetary bonuses when employees are risk neutral use of promotion for incentives need not distort assignments when they are risk averse it may sufficient conditions for this are given the distortion may be either to promote more employees than is efficient the peter principle effect or fewer

specific training sometimes cuts wages and always cuts turnover turnover falls with tenure but wages do not always rise and sometimes fall with tenure we reconcile these findings by revisiting an old issue how gains from firm specific training are split between workers and firms the division is determined by a stationary distribution of outside offers the lower the wage a firm pays to a specifically trained worker the more profit it makes but the more likely the employee is to leave the optimal time paths of wages and turnover show that if marginal product is increasing wages need not be increasing but it always implies a falling turnover rate

enriching a theory of wage and promotion dynamics inside firms in previous work we showed that a model that integrates job assignment human capital acquisition and learning can explain several empirical findings concerning wage and promotion dynamics inside firms in this article we extend that model in two ways first we incorporate schooling and derive further testable implications that we then compare with the available empirical evidence second and more important we show that introducing task specific human capital allows us to produce cohort effects we further argue that task specific human capital is a realistic concept and may have many important implications we also discuss limitations of our extended approach

is fta epa effective for a developing country to attract fdi the knowledge capital model revisited to prepare an answer to the question of how a developing country can attract foreign direct investment fdi this paper explored the factors and policies that may help bring fdi into a developing country by utilising an extended version of the knowledge capital model with a special focus on the effects of a free trade agreement fta or an economic partnership agreement epa between a pair of market and non market countries simulations with the model revealed the following i although fta epa generally tends to increase fdi to a developing country the possibility of improving welfare through increased demand for skilled and unskilled labour decreases as the size of the country grows ii a developing country may suffer severe welfare losses through fta epa if the availability of skilled labour is extremely limited and iii a developing country can enhance welfare gains from a fta and it is even possible to recover the welfare effects from negative to positive by making the arrangement an epa

commodity choice behavior with pigeons as subjects starting from an initial baseline budget line income compensated price changes always resulted in substitution effects consistent with the slutsky hicks theory this behavior cannot be explained by a simple random behavior model similar changes in relative prices that did not originate from the initial baseline budget line resulted in undersubstitution effects the composition of consumption changed in the expected direction but the magnitude of change was not large enough to be consistent with the initial commodity bundle chosen these undersubstitution effects are not explainable by shifting preference patterns or anchoring effects found in inconsistent choice sequences with human subjects

ex post unbalanced tournaments tournaments create strong incentives under the assumption that the competition between the agents is balanced if at the outset one agent is stronger than the other the tournament is ex ante unbalanced and incentives break down handicaps can in this case restore incentives in practice competing agents are often overall equally strong but have different sorts of strengths then competition will typically be unbalanced ex post and incentives break down but handicaps cannot be used we show how a simple means introducing the possibility of a tie can often resolve the problem we examine under what conditions incentives are maximized by ties

the effect of individual uncertainty on the specificity of human capital empirical evidence from career developments in professional soccer this study looks at careers in professional soccer to investigate the determinants of human capital hc specificity inspired by labour market research we formulate three hypotheses on how uncertainty about the usefulness of individuals more productive specific skills affects their investment in more flexible general skills the empirical analysis is based on unique panel data on school grades soccer evaluations and sociodemographic characteristics of 90 elite players from the youth academy of a german bundesliga club we find that senior and long serving players who are comparably certain that their soccer specific capital will be sufficient to pursue a lucrative professional career invest less in general hc at school expected soccer performance in contrast has a counterintuitive positive effect our results expand knowledge on the factors influencing hc specificity from the macro to the subject level and highlight practical implications for institutions that train gifted individuals