The Labor Market

nonpecuniary factors: environment, risk of injury, personalities of managers, perceptions of fair

treatment, and flexibility of work hours

Positive Economics

People respond favorably to benefits and negatively to costs

scarcity – and choices must be made

people are rational – that means they have an objective, which they pursue in a reasonably consistent
fashion, and an adaptability of behavior when those objectives change.

• For persons: the objective is utility maximization.

• For firms: the objective is profit maximization.

positive economics should be judged on the basis of its predictions, not its assumptions

model –explain a complex set of behaviors and outcomes using a few fundamental influences

may not be accurate due to other forces ignored in the calculations, but it will give the average
tendencies of outcomes

There is a negative relationship between wages and voluntary turnover

assumptions of the theory concern individual behavior of employers and employees, but the
predictions are about an aggregate relationship between wages and turnover

Normative Economics

social optimality

“mutual benefits”

1)Pareto efficiency- labor market transaction is beneficial to both parties (agree on wage)

Some parties gain and some can lose from the transaction, but the gainers fully compensate the
losers

2) one or more parties lose (involve the redistribution of income, from which some gain at the expense
of others)

Market Failure: Ignorance, Transactions Barriers ,

Externalities–arises when a buyer and a seller agree to a transaction that imposes costs
or benefits on people who were not party to their decision

• If all transaction costs and benefits fall on the decision makers, the transaction
represents Pareto efficiency – decision was voluntarily accepted by all affected

• Externalities also exist if workers have no mechanism to transfer their costs of

being injured to their employers
 Public Goods –a person is willing to consume a good or service but is not willing to pay
the cost– “free rider problem.”

• can lead to under-investment unless the government can compel payments

through its tax system

Price Distortions –prices do not reflect the true preferences of the parties caused by
taxes, subsidies, or other forces (price controls)

government intervention could either compel or actively promote transactions

– internalize externalities

-Capital Market Imperfections

Efficiency versus Equity

• source of dispute is that there is a number of different sets of transactions can satisfy
the definition of economic efficiency but questions arise as to which set is equitable.

• source of dispute over equity and efficiency is that to achieve more equity, steps away
from Pareto efficiency must often be taken

A Univariate Test

analyzing the effects of one variable (wage rate – predictor or explanatory variable) on just one other
variable (quit rate – dependent variable

 cross-sectional data because they provide observations across units at a point in time.

 time series data - Observations that provide information on a single behavioral unit over a
number of time periods

 panel data -Combination of cross-sectional and time-series data

Qi = α0 + α1Wi + εi

Qi and Wi are firm i’s quit rate and wage rate, respectively,

α0 and α1 are the intercept and slope parameters; and εi is

the random error term – to capture unexplained factors

Line of best fit minimizes the sum of squared vertical distances between line and each individual data
point

 The uncertainty about each coefficient is measured by its standard error (SE) or the estimated
standard deviation (SD) of the coefficients

Multiple Regression Analysis

Qi = β0 + β1Wi + β2Ai + εi
  Ai can be used as a dichotomous variable:

Ai = 0 if the average age of firm i’s workers is ≤ 40.

Ai = 1 if the average age of firm i’s workers is > 40

omitted variables bias – Running a univariate regression when the situation requires multiple regression
or leaving out important explanatory variables