Efficiency-wage theory states that the productivity of workers has a lot positive dependence on their wages. In a way, it explains the structural unemployment that is, to balance the supply and demand of labor, wages are set above the equilibrium wage. Labor union and other laws and regulations such as minimum-wage laws, also contributes to this phenomenon, and it also set on purpose to increase worker’s productivity. But this does not balance out the business cycle; the market does not clear and hence resulting into involuntary unemployment. There are several models that constitute this theory and explain its effect on clearance or non clearance of labor market. Efficiency wage considerations also provide a strong explanation for large and persistent non competitive wage differentials for workers with equal productive capability. Under these models it is explained that there are several other factors as well which has effect on the non clearance of labor market such as; real wage rigidity, dual labor market, the existence of wage distribution for the worker with similar characters, and discrimination on the basis of external appearance.
Efficiency wage theory also covers many other reasons explaining its effect on the professional behavior of labor. If a worker is being paid less wage compared to the effort he does, the chances of shirking will be more. He will not perform efficiently hence there would be decline in productivity. On the other hand, if the salary justifies the effort he does, he will perform his duty more efficiently. So if all the firms offer identical wage and are fully employed, there would be no chance of shirking and all the workers would perform to their capabilities. But this increase in average wage would reduce employment because in equilibrium all the firms pay wage above the marker clearing level. This is in favor of firm owners because it minimizes the chance of shirking and makes it costly for their employees but on business cycle it has drastic effects, resulting into unemployment. Other models and sub-models of Efficiency wage theory such as; Gift-Exchange model, Fair Wage-effort model and adverse selection model, all these links the productivity of worker with the wage in positive manner.
My developed hypothesis for research is;
“The productivity of the worker does not depend on his wage only, but collectively on his working environment and the current position of economy as well.”
If we correlate all the proposed sub-models of Efficiency-wage theory mentioned in the above paragraphs, they all go in favor of firms and their owners. Applying these in their waging strategy would defiantly boost up their employee’s productivity; they would be more loyal towards performing their assigned tasks, the “cheat-threat” theory would create an incentive not to shirk. Offering wage which is above the labor-market equilibrium wage will attract more workers to the gates of firm, thus increasing the pool size to choose better workers. But all these have adverse effects on the market, increasing the unemployment rate. Numbers of people actively searching for work are unable to find jobs, and those who find one are ready to work at low wages, hence sacrificing their capabilities for earning and discourage them to work harder in hope of getting increments. So individually, all these theories are not in favor to keep the supply demand in balance. To increase the efficiency of labor force and the market economy, a strategy should be planned by the correlation of all these while keeping other factors in mind. Factory owners should keep balance in their wages with respect to the market rate to minimize the rate of unemployment and to keep running the business cycle.
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