SETASIGNThis e-book
B) Second hypothesis
3. The long term adjustment
5.9 The insider–outsider model
Advanced Macroeconomics
179
Modern Macroeconomics
Advanced Macroeconomics
180
Modern Macroeconomics
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Figure 5.14 The real wage, insider and outsider equilibrium
Figure 5.14 shows that M* is the insiders’ demand. The wage earned by them is W1. At this point, no outsiders are employed. At point B, the marginal productivity after deducting for labor turnover costs is below the entrant wage WE.
There are unemployed workers between m
− and m−. A hiring situation will occur when insiders in the firm are fewer than m
−. The firm will hire more outsiders and fire insiders. When insiders are greater than m−, the insiders will be fired even when they accept wages equivalent to the wages outsiders get.
This is because their productivity is low and it is below WE. But when outsiders are more productive, it is inversely related. We can see this at the aggregate level, where aggregate demand is ND. It comprises NI+NE. At labor demand m*, there is an aggregate labor demand.
Advanced Macroeconomics
181
Modern Macroeconomics
5.9.2 Criticism
The insider and outsider model fails to explain the new firm and their employment. A firm could hire unemployed workers. Doing so would lower the competitive wage. The IDC curve could shift back;
sometimes firms have small operations at different locations, where not the same number of units are produced and there might be differences in size or quality. uch heterogeneous production skills will not affect firms much. The labor market is dynamic, sometimes it clears automatically. Insiders have more favorable opportunities than outsiders; policies that create a more level playing field in the labor market can improve both efficiency and equity. This is regardless of whether primary versus secondary sectors are employed, whether workers are unionized or non-unionized and so on. The two policies, i.e., power reducing policies and enfranchising policies, create a more level playing field for both insiders and outsiders. An example of a power reducing policy is restricting strikes and picketing. Relaxing job security legislation can also be formulated. These policies are usually not Pareto improving since they tend to reduce the welfare of insiders. Insiders may therefore resist these policies either through the political process or rent-seeking activities at the workplace. These insiders’ responses will of course limit the effectiveness of the power-reducing policies. Enfranchising policies often take the form of vocational training programs and job counseling for the unemployed and profit sharing schemes. Schemes to convert wage claims into equity shares, or employment vouchers for the long-term unemployment policies to reduce barriers to the entry of new firms are also part of enfranchising policies (Lindbeck and Snower 2002).
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Advanced Macroeconomics
182
Modern Macroeconomics