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Chapter 15: Job Search: External and Internal

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1. External Job Search

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Workers search for the best job offer and firms search for employees to fill job vacancies.

Search occurs because: Workers and jobs are highly

heterogeneous. Information about differences in jobs and

workers is imperfect and takes time to obtain.

Why Search?

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Assume job searcher is unemployed and seeking work.

Job seeker is aware that a wide distribution of wage offers exists for his or her occupation.

Job searcher can roughly estimate the mean and variance of wage offers, but does not know which employer is offering which wage.

Job Search Model

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Benefits Search allows individuals to obtain wage

offers and increase the chance of getting a higher wage offer.

Costs Explicit costs such as employment agency

fees and transportation to and from job interviews.

The major cost of continued job search is the forgone earnings of the best wage known wage offer.

Costs and Benefits of Job Search

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To help decide whether to accept a given wage offer, a person may establish an acceptance wage and reject any wage below it. The acceptance wage equates the

marginal benefit of continued jobs search with the marginal cost.

Acceptance Wage

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Wage Offers and the Acceptance Wage

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Nominal Wage Offers

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• Given this frequency distribution of

nominal wage offers and the person’s acceptance wage Wa, he or she will reject all offers lower than c and accept any offer greater than or equal to c.

• The probability that a specific offer will exceed the acceptance wage is 80 percent

(.30 + .30 + .15 + .05).

Wa

• During the period of search for an

acceptable wage offer, this person is

unemployed.

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Unexpected Inflation and Job Search

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Nominal Wage Offers

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• Unexpected inflation results in higher nominal wage offers, and the frequency distribution shifts to the right.

• Because this person’s acceptance wage remains at Wa, he or she is more likely to accept the next wage offer and hence job search falls

W’a

• But once people realize that the nominal wage offers are no higher in real terms than before, they adjust their acceptance wage (e.g., Wa to W’a) and the job search length returns to normal.

Wa

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Unemployment Benefits and Job Search

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Nominal Wage Offers

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• Unemployment benefits reduce the net

opportunity cost of rejecting wage offers and continuing to search for higher-paying employment and thus allow people to increase acceptance wages.

• For the person shown, the increase in the

acceptance wage from Wa to W’a means that the probability of receiving an acceptable wage in the next attempt falls from 80 percent to 20 percent (.15 + .05).

W’a

• The length of job search therefore rises.

Wa

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Since workers will not accept wage offers below the acceptance wage, there can be unfilled job vacancies even when considerable unemployment exists.

The longer a person’s expected job tenure, the higher will be a person’s acceptance wage. Continued job search has a higher

expected gain.

Other Implications of Job Search Model

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Random luck plays a role in the distribution of wages and employment. Variations will occur in who gets a high

wage offer. The level of unemployment is partly a

function of the overall demand of labor. It takes longer for workers to find an

acceptable wage offer since fewer firms are hiring.

Also, workers may not initially adjust their acceptance wage.

Other Implications of Job Search Model

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Acceptance wage falls with time unemployed and when unemployment benefits are exhausted.

The acceptance rate of wage offers is between 80 and 100 percent.

Unemployment benefits lengthen job search.

Duration of job search is higher for blacks and older workers.

Empirical Evidence

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Questions for Thought:1. Explain how each of the following would affect

the probability that a job searcher will accept the next wage offer and thus affect the expected length of his or her unemployment:

(a) a decline in the rate of inflation below the expected one.

(b) a decrease in unemployment benefits.

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2. Internal Labor Markets

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Internal Labor Market• A worker typically enters

an internal labor market at the least-skilled port-of-

entry job in the job ladder or mobility chain.

• While the wage rate of the port-of-entry job will be strongly influenced by the forces of demand and supply in the local external labor market,

wage rates and the allocation of workers within the internal labor

market are governed primarily by administrative rules and procedures.

S h ipp in g D e pa rtm e nt

L o ad er

P a cker

L o ca l D rive r

L o n g-d is tan ce d rive r

D isp a tch er

Port of

Entry

External

Labor

Market

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Firms have significant hiring and training costs and these costs can be reduce by lowering worker turnover.

Firms use job ladders –the key characteristic of internal labor markets –as method to reduce worker turnover. The lower turnover increases the return

on firm investments in specific training. Firms can lower recruiting and screening

costs since they will have a lot of information about the existing workforce.

Reasons for Internal Labor Markets

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The job ladder also provides an incentive for workers to seek new skills and work hard.

Workers get the benefits of increased job security, opportunities for promotion and training, protection from the external labor market.

Also, the formal rules protect workers from arbitrary management decisions.

Reasons for Internal Labor Markets

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Internal labor markets are both a cause and effect of unionization.

Internal labor markets encourage unionization for the following reasons: Lower worker turnover. Firm-specific training increases workers

bargaining power. The rule and procedures of internal labor

markets limit managerial decisions. Unionization can be a response when

managerial decisions violate these rules.

Role of Unions

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Unionization can encourage internal labor markets. The collective bargaining agreement

formalizes the rules and procedures inherent in internal labor markets.

Role of Unions

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Promotions are generally determined on the basis of seniority. The most-experienced rather than the

most able worker will typically get an promotion.

Labor Allocation and the Wage Structure

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Wages and Job Evaluation• The wage structure is set

by a job evaluation procedure which assigns wage rates for jobs on the basis of job characteristics

and worker traits.

• Those jobs with more points are assigned higher wages.

Factor Maximum Points

Working conditions 15

Responsibility for equipment 25

Responsibility for other worker

20

Skill 20

Education 35

Physical effort 10

Total points 125

• Wages are assigned usually to jobs rather than workers.

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Internal labor markets may increase efficiency since they reduce labor turnover, and the lower the costs of training, recruiting, and screening.

Internal labor markets may increase dynamic efficiency or increases in productivity due to improvements in the quality of labor and other resources. Since the jobs of senior workers are

secure, they can pass on their knowledge and skills to less-skilled workers.

The Efficiency Issue

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Deferred Pay Scheme• Some argue the pay structure of

internal labor markets also solves incentive problems.

• In the diagram is MRP constant over the person’s worklife.

• Younger workers receive pay that is less than their MRP, while older workers are paid more than their MRP.

• The prospect of high pay at the end of one’s career, may discourage shirking and reduce turnover.

Wage

MRP

Quantity of Labor Hours

Wag

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te, M

RP

• Because of the increased productivity, workers may get higher lifetime earnings than if wages equaled MRP each year.

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Questions for Thought:1. Explain the following statement: “Unions are

both a consequence and a cause of internal labor markets.” Why might the presence of internal labor markets in a firm encourage unionization?

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EndChapter 15