Chapter 5: Nonwage labor costs

Nonwage labor costs

Nonwage labor costs include: hiring costs, training costs, and employee benefits.

Hiring costsHiring costs include the costs associated with: placing advertisements, selecting candidates for interviews, interviewing candidates, selecting candidates for job offers, negotiating job offers, and processing the worker's employment (filling

out W4 forms, I9 forms, and adding the worker to the company's insurance and pension plans) in the human resources department of the firm.

Hiring costs differences across firms In the secondary labor market,

hiring costs are generally relatively low.

Hiring costs in the primary labor market, however, can be very substantial, particularly when a firm is operating in a national labor market.

Training costsTraining costs include: the explicit cost of hiring trainers and

using materials (such as manuals, videotapes, and capital equipment) for training purposes,

the implicit cost of using other workers, raw materials, and capital during informal on-the-job training, and

the opportunity cost of the trainee's time during training.

Training costs and wage offers low wages - higher turnover rates

and lower quality applicants, leading to higher training costs.

high wages - lower turnover rates and higher quality applicants, leading to lower training costs

Employee benefits legally mandated social insurance

programs (such as social security and unemployment compensation), and

privately provided benefits such as health insurance, vacation pay, and pension plans.

Quasi-fixed costs Quasi-fixed costs are costs that

vary with the number of workers hired by the firm, but not with hours worked per employee.

Optimal mix of employment and hours

Firms may increase their use of labor by:

adding additional workers, increasing the length of the

workweek, or some combination of increases in

hours and increases in the number of workers.

Production function

Q=f(M,H)

where: Q = quantity of outputM = number of workersH = length of average work week

MP of M declines as M increases MP of H declines as H increases

Optimal mix of M and H

Effect of an increase in mandated overtime premium

equivalent to an increase in MEH

substitution effect: M increases and H decreases

scale effect: M and H both decrease

Effect of an increase in mandated overtime premium

In a more complete model, other effects would occur: a substitution of capital and other inputs for labor, increased noncompliance, only limited substitution of less skilled unemployed

workers for the skilled workers who tend to work overtime hours,

increased moonlighting, and a decline in the base rate of compensation in those

industries that use significant amounts of overtime.

Part-time employment and mandated benefits The quasi-fixed costs associated

with full-time employees is usually higher than the quasi-fixed costs associated with part-time employees.

Mandatory health insurance would reduce the use of part-time employment.

Multi-period demand for labor firms may lose money during a

training period if they can receive a sufficient return on the training investment in subsequent periods.

Present value

The present value of a future payment is lower when:

• the payment is received in the more-distant future, and/or• the interest rate is relatively high.

Two period model: definitions

Wo = wage during training W1 = post-training wage W* = wage if no training is received

(the same in each period) Z = hiring and training cost (paid during

the training period) MPo = marginal product during training MP1 = marginal product after training MP* = marginal product if no training is

received (assumed to be the same in each period)

Shifts in MP due to training

Optimal employment when training costs are present PV(MRP) = PV(MFC)Definitions: PVP = MPo + MP1/(1+r), and PVE = Wo + Z + W1/(1+r).

Optimal employment: PVP=PVE MPo + MP1/(1+r) = Wo + Z + W1/(1+r)

Optimal employment when training costs are present

Optimal employment when training costs are present Wo + Z - MPo = (MP1 - W1) / (1 +

r), or NCo = G

General and firm-specific training General training is training that

raises a worker's productivity in more than one firm.

Firm-specific training increases the worker's productivity only in the current firm.

Costs of general training Since general training raises the

productivity of the worker in more than one firm, the costs (and benefits) of general training are expected to be borne by the worker.

Wo = MPo - Z, and W1 = MP1

Costs of firm-specific training If workers bear the costs, there is no

reason for the firm to keep the worker. If firms bear the costs, there is no reason

for workers to stay. It is expected that the costs of (and

benefits from) firm-specific training will be shared.

MPo - Z < Wo < MP* MP* < W1 < MP1

Layoffs, productivity, and training a firm will be more reluctant to lay

off workers who have received training investments paid for by the firm,

Layoffs, productivity, and training a firm will be more reluctant to lay off

workers who have received training investments paid for by the firm,

firms are more likely to rely on overtime rather than using additional employees in those markets in which firms pay a substantial share of training costs,

productivity falls during a recession, and

rises during an expansion.

Minimum wage and training costs For workers to bear part or all of the cost

of their training, they must be paid less during the training period.

The minimum wage sets a floor on this wage that limits the ability of workers to bear the costs of such training by accepting a lower wage.

Firms faced with such a system may respond by providing less training, thereby limiting the rate of growth of earnings for minimum-wage workers.

Credentials, Signals, and statistical discrimination Firms have imperfect information

and may make decisions based on observable worker characteristics.

Credentials, Signals, and statistical discrimination Firms have imperfect information

and may make decisions based on observable worker characteristics.

This may lead to statistical discrimination.

Statistical discrimination is expected to be less severe when internal labor markets are used.