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Article Excerpt
Abstract
The aim of New Keynesian theorists is to obtain Keynesian results on the basis of maximizing behavior. Accordingly, the New Keynesian shirking models depict a world of fully rational maximizing agents where equilibrium unemployment is the main consequence of the payment of efficiency wages. The problem is that oversimplified nature of most shirking models has until now prevented a full investigation of the interdependence of unemployment, the effort supplied by workers and labor demand. This article shows that the existence of this interdependence weakens the whole approach. In particular, when the unemployment rate is considered a truly endogenous variable, the stability of the macroeconomic equilibrium is generally incompatible with the existence of unemployment ascribed to the fact that firms pay efficiency wages. (JEL J41)
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Introduction
The shirking version of the efficiency wage approach is one of the most popular explanations of unemployment proposed by New Keynesian Economics. The general aim of New Keynesian theorists is to obtain Keynesian results, such as equilibrium involuntary unemployment, on the basis of maximizing behavior. Accordingly, the shirking models [Calvo, 1979; Calvo and Wellisz, 1979; Shapiro and Stiglitz, 1984; Yellen, 1984; Bowles, 1985; Akerlof and Yellen, 1985 and 1986; Katz, 1986; Stiglitz, 1987; Weiss, 1991; Pisauro, 1991; Simmons, 1991; Phelps, 1994; Albrecht and Vroman, 1996; and Laszlo, 2000] depict a world of fully rational maximizing agents where a functional relationship between workers' effort and other variables generates a moral hazard problem (firms may not know the effort supplied by each worker perfectly) that disrupts the competitive framework. In particular, these models assume that (identical) workers will shirk more as their wages fall, thus forcing maximizing firms to pay an equilibrium wage above the Walrasian one in order to obtain an adequate (profit maximizing) level of effort from workers. The aggregate result is less-than-full employment with any re-equilibrium path based on underbidding by the unemployed destined to be ineffective.
Although the existence of equilibrium unemployment is the main consequence of efficiency wages, the oversimplified nature of most models has until now prevented a full investigation of the interdependence existing between unemployment, the effort supplied by the workers, and labor demand. In particular, many authors admit that the effort should be considered as a continuous function both in the unemployment rate and the real wage. (1) Nevertheless, they consider the unemployment rate as given and the effort as a function of the real wage alone, arguing that this assumption does not alter the results [Shapiro and Stiglitz, 1984, p. 435, note 4; Stiglitz 1987, p. 8, note 11]. On the contrary, this article aims to show that modeling the unemployment rate as an endogenous variable bears three important consequences. First, building of micro and macroeconomic labor demand functions becomes non-trivial and badly behaved (upward sloping) segments of the demand schedules are a usual result, so that multiple equilibria may occur. Second, even if well-behaved labor demand schedules are assumed, the stability requirements of the macroeconomic equilibrium are demanding. Third, the stable efficiency wage macroeconomic equilibria are meaningless for the theory since they all correspond to particular cases in which unemployment would exist even without efficiency wages and to utterly unrealistic values for the unemployment rate (always above 50 percent). The existence of these problems can jeopardize the New Keynesians' ambition of using the shirking models in order to obtain equilibrium involuntary unemployment results on the basis of maximizing behavior.
This article is organized as follows. In the following section, the microeconomic equilibrium for the efficiency wage shirking model is obtained on the basis of a continuous effort function in both the wage and the unemployment rate. Next, the same model is used to discuss the characteristics of the microeconomic labor demand. Then, macroeconomic equilibrium is obtained and its stability requirements are discussed. Finally, the last section sums up the main results.
The Microeconomic Equilibrium
The following analysis examines the efficiency wage as a cause of unemployment (and not of wage differentials), (2) accepting the hypotheses on which the New Keynesian shirking models rest. (3) In particular, it is assumed that there...
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