Summary
Made by: Krista Lok
Book: Personnel Economics, Edward P. Lazear and Michael Gibbs, 2e edition
Chapters: 1-5; 7-12; 15
Course: Personnel Economics at the Rijksuniversiteit Groningen
Date: 05-01-2015
INHOUDSOPGAVE
CHAPTER 1 SETTING HIRING STANDARDS .............................................................................................................. 3
1.1 AN EXAMPLE: HIRING RISKY WORKERS .......................................................................................................................... 3
1.2 SETTING HIRING STANDARDS ....................................................................................................................................... 3
1.3 MAKING DECISIONS WITH IMPERFECT INFORMATION........................................................................................................ 4
CHAPTER 2 RECRUITMENT..................................................................................................................................... 4
2.1 INTRODUCTION ........................................................................................................................................................ 4
2.2 SCREENING JOB APPLICANTS ....................................................................................................................................... 4
2.3 SIGNALING .............................................................................................................................................................. 5
CHAPTER 3 INVESTMENT IN SKILLS ........................................................................................................................ 6
3.1 INTRODUCTION ........................................................................................................................................................ 6
3.2 MATCHING.............................................................................................................................................................. 6
3.3 INVESTMENT IN EDUCATION ....................................................................................................................................... 6
3.4 INVESTMENTS IN ON THE JOB TRAINING ........................................................................................................................ 6
3.5 RENT SHARING AND COMPENSATION ............................................................................................................................ 8
3.6 IMPLICIT CONTRACTING ............................................................................................................................................. 9
CHAPTER 4 MANAGING TURNOVER ...................................................................................................................... 9
4.1 IS TURNOVER GOOD OR BAD? ..................................................................................................................................... 9
4.2 RETENTION STRATEGIES ............................................................................................................................................. 9
4.3 BIDDING FOR EMPLOYEES ........................................................................................................................................... 9
4.4 LAYOFFS AND BUYOUTS ........................................................................................................................................... 10
CHAPTER 5 DECISION MAKING .............................................................................................................................10
5.1 INTRODUCTION ...................................................................................................................................................... 10
5.2 THE ORGANIZATION OF AN ECONOMY ........................................................................................................................ 10
5.3 BENEFITS OF CENTRALIZATION ................................................................................................................................... 11
5.4 BENEFITS OF DECENTRALIZATION ............................................................................................................................... 11
5.5 AUTHORITY AND RESPONSIBILITY ............................................................................................................................... 12
CHAPTER 7: JOB DESIGN .......................................................................................................................................13
7.1 INTRODUCTION / 7.2 PATTERNS OF JOB DESIGN ........................................................................................................... 13
7.3 OPTIMAL JOB DESIGN: SKILLS, TASKS, AND DECISIONS .................................................................................................... 14
7.4 COMPLEMENTARITY AND JOB DESIGN ......................................................................................................................... 14
7.5 WHEN TO USE DIFFERENT JOB DESIGNS ....................................................................................................................... 14
7.6 INTRINSIC MOTIVATION ........................................................................................................................................... 15
7.7 SUMMARY ............................................................................................................................................................ 15
,CHAPTER 8 ADVANCED JOB DESIGN .....................................................................................................................15
8.1 INTRODUCTION ...................................................................................................................................................... 15
8.2 TEAMS / 8.3 BENEFITS OF TEAMPRODUCTION .............................................................................................................. 15
8.4 EFFECTS OF INFORMATION TECHNOLOGY ..................................................................................................................... 16
8.5 HIGH RELIABILITY ORGANIZATIONS ............................................................................................................................. 17
CHAPTER 9 PERFORMANCE EVALUATION .............................................................................................................17
9.1 INTRODUCTION ...................................................................................................................................................... 17
9.2 QUANTITATIVE PERFORMANCE MEASUREMENTS ........................................................................................................... 17
9.3 SUBJECTIVE EVALUATION.......................................................................................................................................... 18
9.4 PRACTICAL CONSIDERATIONS .................................................................................................................................... 19
CHAPTER 10: REWARDING PERFORMANCE ..........................................................................................................19
10.1 INTRODUCTION .................................................................................................................................................... 19
10.2 HOW STRONG SHOULD INCENTIVES BE? .................................................................................................................... 20
10.3 PAYING FOR PERFORMANCE: COMMON EXAMPLES ...................................................................................................... 20
10.4 APPLICATIONS...................................................................................................................................................... 21
CHAPTER 11 CAREER-BASED INCENTIVES .............................................................................................................22
11.1 INTRODUCTION .................................................................................................................................................... 22
11.2 PROMOTIONS AND INCENTIVES ............................................................................................................................... 22
11.3 SENIORITY PAY AND INCENTIVES .............................................................................................................................. 23
CHAPTER 12 OPTIONS AND EXECUTIVE PAY .........................................................................................................24
12.1 INTRODUCTION .................................................................................................................................................... 24
12.2 EMPLOYEE STOCK OPTIONS ..................................................................................................................................... 24
12.2 EXECUTIVE PAY .................................................................................................................................................... 25
CHAPTER 15 THE EMPLOYMENT RELATIONSHIP ...................................................................................................26
15.1 INTRODUCTION .................................................................................................................................................... 26
15.2 EMPLOYMENT AS AN ECONOMIC TRANSACTION .......................................................................................................... 26
15.3 COMMUNICATION BETWEEN MANAGEMENT AND WORKERS ......................................................................................... 27
15.4 IMPROVING COOPERATION ..................................................................................................................................... 29
,Chapter 1 setting hiring standards
1.1 An example: hiring risky workers
Example
Wage employees: 100.000
Conservative employee: standard employee like everyone else
Expected output Conservative: 200.000 output
Expected profit after 10year: 2.000.000 – 1.000.000 = 10.000.000
Potential employee: employee with talent. Can give -100.000 output or 500.000. There is some risk!
Expected output Potential: 0.5*-100.000 + 0.5*500.000 = 200.000
Expected profit after 10year: (0.5 *(-100.000 -100.000)) + (0.5 * (5.000.000-1.000.000)) = 1.900.000
If you have to decide whether you should hire a not experienced but potential talented or a
conservative employee and they will give you the same output than hire the riskier one! Because in the
long term you will see that the riskier one gives in average more profit than the conservative employee.
Take into account some variables for deciding who to hire
- Downside Risk: the more the potential there is for an employee to destroy value the less likely is it to
be optimal to take a chance on a risky worker.
- Upside potential: The greater the profits if the potential turns out to be a star the greater the chance
to take a risky worker. But does an increase in talent lead to an increase in profit for the
organization?
- Termination costs: Cost of fire a worker
- Risk aversion: a recruiter is risk averse if he doesn’t want to have a poor evaluation if they hire a bad
candidate.
- Length of evaluation: Time that it takes to evaluate if the risky employee is a star or not
- Length of employment: The length of employment of the star
Counterargument
What if the case is as follows: if the employee is a star other companies will offer her a higher loan, but
if the employee is a disaster no companies will hire the employee. So how is it still possible to benefit
from the employee who can become a star? Depends on:
- Asymmetric information
- Firm specific productivity
1.2 setting hiring standards
Hiring Standards, Simple case:
Monthly profit hiring high school graduate: 122.917 – 2.198 = 120.719
Cost per €1.000 monthly sales: 2.198/(122.917/1000) = €17,88
Monthly profit hiring college graduate: 156.944 – 3455 = 153.489
Cost per €1.000 monthly sales: 3455/(156.944/1000) = €22,01
Looking at profits college graduate seems to be the best option. But looking at cost per €1.000 sales high
school graduate turns out to be the best option! Wh/Qh < Wc/Qc: to decide you have to divide wage by
quantity
, What effect has the method of production on our above analyses?
1: productivity is independent of coworkers: worker’s sales depend on their own ability and effort
Use above analyses for the decision which worker to higher
2: productivity high school workers is dependent on college graduate coworkers
The output of a worker includes the effect on coworker output. See p14 table
3: productivity is independent of coworkers, but depends on capital
(Labor cost + capital cost) / output
How many workers to hire:
1. Hire workers as long as the incremental profit from hiring an additional worker is positive. The
main reason for diminishing marginal productivity is that workers are dependent on other
resources like computers and machines.
2. Availability of the workers:
o If you hire a large fraction of a certain type of workers of the local labor force this will drives
up the wage. How larger the fraction of the local labor you hire how higher the wages are
that you have to pay.
o If the needed labor is very specific you have high search cost to take into account.
3. Firms financial condition
1.3 making decisions with imperfect information
If you make decisions with imperfect information, you can do three things:
- Make a decision independent of analysis: using instinct, experience or standard practice.
- Estimate the relevant information: using available data and information from other sources
- Conduct an experiment
Chapter 2 recruitment
2.1 introduction
How can you think about sorting for the most effective workforce?
2.2 screening job applicants
Adverse selection: wrong type of applicants applying to the firm. Problem arises because of asymmetric
information.
How can you mitigate this adverse selection problem?
- First: Credentials: things that distinguish some applicants from others.
Experience
Type of training
Quality of school
o Easy to obtain
- Second: Learning a workers productivity (screening)
By tests
Psychological profiling
Interview
- Third: Probation: worker has to do the job for a probationary period
The firm can use an up or out system.
Small differences credentials will signal large differences in ability.
It is important to now the effect of small differences in employee characteristics on the differences in
ability!
Made by: Krista Lok
Book: Personnel Economics, Edward P. Lazear and Michael Gibbs, 2e edition
Chapters: 1-5; 7-12; 15
Course: Personnel Economics at the Rijksuniversiteit Groningen
Date: 05-01-2015
INHOUDSOPGAVE
CHAPTER 1 SETTING HIRING STANDARDS .............................................................................................................. 3
1.1 AN EXAMPLE: HIRING RISKY WORKERS .......................................................................................................................... 3
1.2 SETTING HIRING STANDARDS ....................................................................................................................................... 3
1.3 MAKING DECISIONS WITH IMPERFECT INFORMATION........................................................................................................ 4
CHAPTER 2 RECRUITMENT..................................................................................................................................... 4
2.1 INTRODUCTION ........................................................................................................................................................ 4
2.2 SCREENING JOB APPLICANTS ....................................................................................................................................... 4
2.3 SIGNALING .............................................................................................................................................................. 5
CHAPTER 3 INVESTMENT IN SKILLS ........................................................................................................................ 6
3.1 INTRODUCTION ........................................................................................................................................................ 6
3.2 MATCHING.............................................................................................................................................................. 6
3.3 INVESTMENT IN EDUCATION ....................................................................................................................................... 6
3.4 INVESTMENTS IN ON THE JOB TRAINING ........................................................................................................................ 6
3.5 RENT SHARING AND COMPENSATION ............................................................................................................................ 8
3.6 IMPLICIT CONTRACTING ............................................................................................................................................. 9
CHAPTER 4 MANAGING TURNOVER ...................................................................................................................... 9
4.1 IS TURNOVER GOOD OR BAD? ..................................................................................................................................... 9
4.2 RETENTION STRATEGIES ............................................................................................................................................. 9
4.3 BIDDING FOR EMPLOYEES ........................................................................................................................................... 9
4.4 LAYOFFS AND BUYOUTS ........................................................................................................................................... 10
CHAPTER 5 DECISION MAKING .............................................................................................................................10
5.1 INTRODUCTION ...................................................................................................................................................... 10
5.2 THE ORGANIZATION OF AN ECONOMY ........................................................................................................................ 10
5.3 BENEFITS OF CENTRALIZATION ................................................................................................................................... 11
5.4 BENEFITS OF DECENTRALIZATION ............................................................................................................................... 11
5.5 AUTHORITY AND RESPONSIBILITY ............................................................................................................................... 12
CHAPTER 7: JOB DESIGN .......................................................................................................................................13
7.1 INTRODUCTION / 7.2 PATTERNS OF JOB DESIGN ........................................................................................................... 13
7.3 OPTIMAL JOB DESIGN: SKILLS, TASKS, AND DECISIONS .................................................................................................... 14
7.4 COMPLEMENTARITY AND JOB DESIGN ......................................................................................................................... 14
7.5 WHEN TO USE DIFFERENT JOB DESIGNS ....................................................................................................................... 14
7.6 INTRINSIC MOTIVATION ........................................................................................................................................... 15
7.7 SUMMARY ............................................................................................................................................................ 15
,CHAPTER 8 ADVANCED JOB DESIGN .....................................................................................................................15
8.1 INTRODUCTION ...................................................................................................................................................... 15
8.2 TEAMS / 8.3 BENEFITS OF TEAMPRODUCTION .............................................................................................................. 15
8.4 EFFECTS OF INFORMATION TECHNOLOGY ..................................................................................................................... 16
8.5 HIGH RELIABILITY ORGANIZATIONS ............................................................................................................................. 17
CHAPTER 9 PERFORMANCE EVALUATION .............................................................................................................17
9.1 INTRODUCTION ...................................................................................................................................................... 17
9.2 QUANTITATIVE PERFORMANCE MEASUREMENTS ........................................................................................................... 17
9.3 SUBJECTIVE EVALUATION.......................................................................................................................................... 18
9.4 PRACTICAL CONSIDERATIONS .................................................................................................................................... 19
CHAPTER 10: REWARDING PERFORMANCE ..........................................................................................................19
10.1 INTRODUCTION .................................................................................................................................................... 19
10.2 HOW STRONG SHOULD INCENTIVES BE? .................................................................................................................... 20
10.3 PAYING FOR PERFORMANCE: COMMON EXAMPLES ...................................................................................................... 20
10.4 APPLICATIONS...................................................................................................................................................... 21
CHAPTER 11 CAREER-BASED INCENTIVES .............................................................................................................22
11.1 INTRODUCTION .................................................................................................................................................... 22
11.2 PROMOTIONS AND INCENTIVES ............................................................................................................................... 22
11.3 SENIORITY PAY AND INCENTIVES .............................................................................................................................. 23
CHAPTER 12 OPTIONS AND EXECUTIVE PAY .........................................................................................................24
12.1 INTRODUCTION .................................................................................................................................................... 24
12.2 EMPLOYEE STOCK OPTIONS ..................................................................................................................................... 24
12.2 EXECUTIVE PAY .................................................................................................................................................... 25
CHAPTER 15 THE EMPLOYMENT RELATIONSHIP ...................................................................................................26
15.1 INTRODUCTION .................................................................................................................................................... 26
15.2 EMPLOYMENT AS AN ECONOMIC TRANSACTION .......................................................................................................... 26
15.3 COMMUNICATION BETWEEN MANAGEMENT AND WORKERS ......................................................................................... 27
15.4 IMPROVING COOPERATION ..................................................................................................................................... 29
,Chapter 1 setting hiring standards
1.1 An example: hiring risky workers
Example
Wage employees: 100.000
Conservative employee: standard employee like everyone else
Expected output Conservative: 200.000 output
Expected profit after 10year: 2.000.000 – 1.000.000 = 10.000.000
Potential employee: employee with talent. Can give -100.000 output or 500.000. There is some risk!
Expected output Potential: 0.5*-100.000 + 0.5*500.000 = 200.000
Expected profit after 10year: (0.5 *(-100.000 -100.000)) + (0.5 * (5.000.000-1.000.000)) = 1.900.000
If you have to decide whether you should hire a not experienced but potential talented or a
conservative employee and they will give you the same output than hire the riskier one! Because in the
long term you will see that the riskier one gives in average more profit than the conservative employee.
Take into account some variables for deciding who to hire
- Downside Risk: the more the potential there is for an employee to destroy value the less likely is it to
be optimal to take a chance on a risky worker.
- Upside potential: The greater the profits if the potential turns out to be a star the greater the chance
to take a risky worker. But does an increase in talent lead to an increase in profit for the
organization?
- Termination costs: Cost of fire a worker
- Risk aversion: a recruiter is risk averse if he doesn’t want to have a poor evaluation if they hire a bad
candidate.
- Length of evaluation: Time that it takes to evaluate if the risky employee is a star or not
- Length of employment: The length of employment of the star
Counterargument
What if the case is as follows: if the employee is a star other companies will offer her a higher loan, but
if the employee is a disaster no companies will hire the employee. So how is it still possible to benefit
from the employee who can become a star? Depends on:
- Asymmetric information
- Firm specific productivity
1.2 setting hiring standards
Hiring Standards, Simple case:
Monthly profit hiring high school graduate: 122.917 – 2.198 = 120.719
Cost per €1.000 monthly sales: 2.198/(122.917/1000) = €17,88
Monthly profit hiring college graduate: 156.944 – 3455 = 153.489
Cost per €1.000 monthly sales: 3455/(156.944/1000) = €22,01
Looking at profits college graduate seems to be the best option. But looking at cost per €1.000 sales high
school graduate turns out to be the best option! Wh/Qh < Wc/Qc: to decide you have to divide wage by
quantity
, What effect has the method of production on our above analyses?
1: productivity is independent of coworkers: worker’s sales depend on their own ability and effort
Use above analyses for the decision which worker to higher
2: productivity high school workers is dependent on college graduate coworkers
The output of a worker includes the effect on coworker output. See p14 table
3: productivity is independent of coworkers, but depends on capital
(Labor cost + capital cost) / output
How many workers to hire:
1. Hire workers as long as the incremental profit from hiring an additional worker is positive. The
main reason for diminishing marginal productivity is that workers are dependent on other
resources like computers and machines.
2. Availability of the workers:
o If you hire a large fraction of a certain type of workers of the local labor force this will drives
up the wage. How larger the fraction of the local labor you hire how higher the wages are
that you have to pay.
o If the needed labor is very specific you have high search cost to take into account.
3. Firms financial condition
1.3 making decisions with imperfect information
If you make decisions with imperfect information, you can do three things:
- Make a decision independent of analysis: using instinct, experience or standard practice.
- Estimate the relevant information: using available data and information from other sources
- Conduct an experiment
Chapter 2 recruitment
2.1 introduction
How can you think about sorting for the most effective workforce?
2.2 screening job applicants
Adverse selection: wrong type of applicants applying to the firm. Problem arises because of asymmetric
information.
How can you mitigate this adverse selection problem?
- First: Credentials: things that distinguish some applicants from others.
Experience
Type of training
Quality of school
o Easy to obtain
- Second: Learning a workers productivity (screening)
By tests
Psychological profiling
Interview
- Third: Probation: worker has to do the job for a probationary period
The firm can use an up or out system.
Small differences credentials will signal large differences in ability.
It is important to now the effect of small differences in employee characteristics on the differences in
ability!
