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A Quick Note about Monopsony Power and Wage Stickiness

Tuesday, November 1, 2016 14:41
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Pondering David Henderson’s excellent and still on-going series of posts on monopsony power in labor markets prompts a thought.  (See here, here, and here for David’s posts.)  This thought of mine is unpolished – and it might prove to be mistaken or a reflection of my hopeless confusion on this issue – but I nevertheless throw this thought out for the consideration mostly of the professional economists who read Cafe Hayek.  Here goes:

One version of the theory of monopsony power over labor is based on low-skilled workers’ desperation not to lose their current incomes.  If workers are so poor – if workers are literally living paycheck-to-paycheck, with no other resources to fall back upon in order to save them and their families from being made homeless and going hungry – they are unwilling to quit their current jobs in order search for new and (hopefully) better jobs.

This worker desperation (the tale continues) gives employers monopsony power over these desperately poor workers.  An employer who hires a worker at a wage below the value of that worker’s marginal product is not prompted to raise that worker’s wage to more closely reflect that worker’s productivity even if a new employer sets up shop across town.  While a less-poor and less-desperate worker might, upon catching wind of the possibility of getting a better across town, quit her current job in order to pursue this possibility, because the possibility is not 100 percent certain, our desperately poor worker cannot afford to take such risks.  So the worker’s current employer feels no competitive pressures to raise his workers’ wages to their ‘correct’ market rates.  That employer’s low-skilled workers remain underpaid – that is, paid less than they would be paid were adequate competition at work in this labor market – despite the existence nearby of other job options for these workers.

(Trying to write the above in a way that makes such a tale even remotely plausible in modern America is quite a struggle.  This tale, on its face, is wholly implausible, for a variety of reasons – for example, it assumes also that employers are also passive in the face of profit opportunities; it assumes that employers refuse to take steps to exploit all the underpaid workers that surround them.  But pretend that the above tale makes empirical sense.)

If this above tale is true, it sits, at best, very uneasily with the assumed reality of wage stickiness.  The typical account of wage stickiness – that is, the typical account of the observed refusal of workers to accept lower nominal wages in order to keep their jobs in the face of a decline in the demand for their labor – rests on the assumption that norms of fairness keep workers from staying on the job if their nominal wages are cut.  Workers refuse to be treated unfairly by their employers; they’d rather quit than suffer the unfairness having their wages cut.  Knowing that many workers will simply quit if their wages are cut, and fearing that workers who don’t quit if their wages are cut will bring poor morale to their jobs, most employers, therefore, don’t even try to cut wages when their demand for labor falls.  Employers adjust exclusively in the quantity dimension by employing fewer workers at the un-reduced wage.

I here wish to debate neither the empirical reality of downward wage stickiness nor the merits of this (or of any other) explanation of this stickiness.  For purposes of this blog post, accept that downward wage stickiness is real and that the above-summarized explanation of it is valid.  If so – if downward wage stickiness is real, then it is very difficult to square with the desperate-worker account of monopsony power in labor markets.

A worker so desperate to keep her current job that she dare not spend time searching for a better job, much less quit her current job in order to search full-time for a better job, seems very unlikely to quit her current job if her employer cuts her wage.  Surely some income – even if it is lower than was last-week’s income – is better than no income for such a desperately poor worker.  This reality seems to hold even more strongly if the setting is one of an economy-wide slump – the setting often of discussions of wage stickiness.  (Downward wage stickiness is a key part of many explanations for why unemployment remains stubbornly high in recessions.)  With economy-wide unemployment on the rise, what would otherwise be a more attractive job to quit (namely, one that pays today less than it paid yesterday) is not a more attractive job to quit; it is perhaps an even more attractive job to cling to despite the wage cut.

Indeed, such a desperately poor worker, to keep her job in the face of a wage cut, will do all she can to resist letting her on-the-job morale sag, lest her employer find good reason to fire her.

I have no doubt that downward wage stickiness can be squared in some fashion with the monopsony tale told above.  Yet is not obvious how such a squaring would work.  It’s not obvious that such a squaring of the prevalence of monopsony power in the labor market with the prevalence of downward wage stickiness would be anything other than a cobbled-together jumble of hypothetical possible but implausible circumstances.

In summary, if many employers have monopsony power over workers, not because there are legal restrictions on employers entering into and competing freely in the labor market, but because workers are so risk-averse that they’ll not risk losing their current jobs even for the prospect of finding better jobs, then we would not expect such an economy to be one in which wages for these workers are sticky downward.  Alternatively, if downward wage stickiness is indeed a significant empirical reality in markets for low-skilled workers, that reality is unlikely also to feature in these labor markets monopsony power borne of workers’ extreme desperation not to lose their current jobs.

…..

If my above thought is valid, then I see a possible Mark Perry Venn diagram.

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