Summary of Personnel Economics
Educational Goals for Personnel Economics:
› Describe the underlying economic principles of HR instruments
› Apply economic models and theories of personnel policies
› Analyze why different organizations use different personnel policies
› Communicate with financial and other managers about effects and efficiency of personnel policies
Week 1 (46) - The Employment Relationship:
Assignments
a. What do Gibbs & Lazear mean with worker empowerment (chapter 15)?
Letting employees having a say in running the company, giving decision rights to employees,
self-governing, beware of the difference with autonomy and/or decentralization. E.g., by open
book management or work councils etcetera.
b. Does empowerment make employees happier and/ or more productive? (Helliwell & Huang or
vd Meer & Wielers)?
Yes, autonomy will increase happiness. All refer and confirm this hypothesis in several ways.
Helliwell & Huang refer especially to the importance of trust, but investigate other job
characteristics as well. Van der Meer & Wielers have a special interest in working hours, but
find also the effect that more autonomous workers are happier than others.
c. Show with the help of at least two figures to what extent worker empowerment should be
given (chapter 15).
Figure 15.1 and 15.2: you should empower up to the point where profit is maximized, and this
is to a lesser extension than empowering up to the level of productivity maximizing, but
shareholder-value against stakeholder value.
d. Should companies that use seniority pay empower their personnel?
Yes they should. because implicitly these employees invested in the organization by accepting
wages that are lower than their productivity and these workers want to protect their (implicit)
investments. A similar reason holds for investing in firm-specific human capital.
e. Does empowerment make a cafeteria plan (chapter 13 on benefits) more effective? Explain.
Yes it does, because it improves information so the plans can be improved (tailor made).
Otherwise employees will withhold information, due to lack of trust between employees and
employers.
Slides
› Basic knowledge of:
Employment Relationship
Worker Empowerment
E(mployee) S(hare) O(wnership) P(lan)
› Samuel Bowles about incentives - when the solution is a monetary one, ethical issues will play a
minimum role. The invisible hand is not always the case; people are not always selfish. So,
monetary rewards will not always work out. It is important to base relationships on trust. Trust is a
very important work condition. For managers and owners is this also important, because they will
get access to information of employees much quicker.
› Why is an economic approach of HRM useful? The key is to focus on how environmental
variables affect the outcome. Information, resources, constraints, decisions and incentives.
› What are the building blocks? Maximizing utility of employees/ value-added of organization
(economic approach).
› What are the limitations of the approach? Incentives do not always work out what we thought
(people are not always selfish), based on assumptions - they do not hold, not everyone is fully
involved (information asymmetry).
› Employment Relationship: sport market (i.e. temp agencies), but more often a long (trust) relation,
see Falk (no perfect substitution, imperfect information, switching costs). Joint surplus - strategic
1
Bianca van Elp
, behavior. Contingent contract. Implicit contract - intrinsic motivation. Importance of trust
(Helliwel & Huang).
› Explicit & Implicit Contracting: promises are problematic as they are hard to enforce. They are
used because complete formal contracts are usually impossible to write - too many contingencies,
too costly (e.g. Ford’s contract w/UAW). Some contingencies are unforeseeable. Lower
transactions costs (sometimes) - e.g. network structures. Some actions cannot be verified/ enforced
in a court (e.g. subjective performance evaluations). If one or both sides trust the other, we do not
have to rely on formal contracts and courts, or on constant negotiation.
› Empowerment/ Consultation: Worker empowerment: the extent to which the firm asks for input
from workers in firm decisions. It is the ability to communicate, express opinions, make
suggestions about working conditions. Compare with autonomy and decentralization - giving
workers the ability to communicate, express opinions, and make suggestions about the job and
working conditions. Some mechanisms: informal suggestion systems, open door policies, unions,
work councils, regular meetings, worker representative in board of the company, employee owned
firms. Benefits from empowerment: better information about worker preferences, more effective
implicit contracting (firm-specific human capital, seniority pay), better information about the job
(idiosyncratic information, cf teams, specific knowledge). Cost of empowerment: workers will
extract rents (maximize profit, not productivity). Unions? When workers work together, long term
relationships with firm, access to outside parties. Example: Grolsch a 400 year old brewery, was
family owned firm, now owned by SABMiller, last year first strike ever. When to empower? Large
difference in pay between good and bad times (cf Volkswagen), small difference between outside
opportunities and wage in bad times, young workers, specific knowledge, firm specific human
capital or career-based rewards system (older workers).
Figure 15.1
Figure 15.2
There is an optimum of empowerment. Example of Brukman: all added value goes to the
employees. This optimum depends on the complexity of the organization. People will be more
motivated, and lower labor turnover. After a certain point the empowerment rate will go down,
because you need continuous meetings to take decisions - when this is too often the added value
will decrease. The combination of the figures will lead to that the share-holder added value <
added value = less empowerment. There are more stakes in the company.
2
Bianca van Elp
,› Shareholders or stakeholders: approaches have different solutions. Example: Dutch Steelworks in
IJmuiden: formerly Hoogovens, then British steel, now Tata steel.
› What makes knowledge costly to communicate?
› Employee Ownership: extreme case of empowerment, is it good? This is what Gibbs thinks about
profit sharing: these are deeply flawed incentives plans (in any form) - performance measure
(repeat after me - it is a lottery ticket) and pay-performance shape (free-rider problem implies
essentially zero incentive). But Gibbs also says: what is good for employees is usually good for
the firm - prove and invest in themselves, have intellectual challenge in their jobs, develop and
implement new ideas and earn rewards for their contributions. Kruse et al. say: it works well
when HR-practices are aligned: complementarity of HR-practices, it is a solution for free-rider
effects (cf. former Yugoslavia). Kurtulus & Kruse: E(mployee) S(hare) O(wnership) P(lan) have a
dampening effect on unemployment rate. Lazear argues that they are expensive unemployment
insurances, but unemployment makes people unhappy.
› Conclusion: empowerment -> improves intrinsic motivation, improves productivity, improves
commitment and solves problems in the employment relationship. It will differ between firms,
e.g. the women of Brukman: they took over their own factory. Instead of being unemployed, they
become ‘owners’, and it became a success. It tells a story about how working in your company
will gain more satisfaction (information asymmetry, doing what you want, make your own
decisions).
Chapter 1 & 15
Chapter 1 - Setting Hiring Standards
1.1 An Example: Hiring Risky Workers
Example (p.3)
Wage employees: 100.000
Option 1. 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
Option 2. Potential employee: employee with talent. Can give -100.000 output or 500.000, but risky
Expected output Potential: 0.5*-100.000 + 0.5*500.000 = 200.000
Expected profit after 10 years: (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
3
Bianca van Elp
, long term you will see that the riskier one gives in average more profit than the conservative
employee.
4
Bianca van Elp
Educational Goals for Personnel Economics:
› Describe the underlying economic principles of HR instruments
› Apply economic models and theories of personnel policies
› Analyze why different organizations use different personnel policies
› Communicate with financial and other managers about effects and efficiency of personnel policies
Week 1 (46) - The Employment Relationship:
Assignments
a. What do Gibbs & Lazear mean with worker empowerment (chapter 15)?
Letting employees having a say in running the company, giving decision rights to employees,
self-governing, beware of the difference with autonomy and/or decentralization. E.g., by open
book management or work councils etcetera.
b. Does empowerment make employees happier and/ or more productive? (Helliwell & Huang or
vd Meer & Wielers)?
Yes, autonomy will increase happiness. All refer and confirm this hypothesis in several ways.
Helliwell & Huang refer especially to the importance of trust, but investigate other job
characteristics as well. Van der Meer & Wielers have a special interest in working hours, but
find also the effect that more autonomous workers are happier than others.
c. Show with the help of at least two figures to what extent worker empowerment should be
given (chapter 15).
Figure 15.1 and 15.2: you should empower up to the point where profit is maximized, and this
is to a lesser extension than empowering up to the level of productivity maximizing, but
shareholder-value against stakeholder value.
d. Should companies that use seniority pay empower their personnel?
Yes they should. because implicitly these employees invested in the organization by accepting
wages that are lower than their productivity and these workers want to protect their (implicit)
investments. A similar reason holds for investing in firm-specific human capital.
e. Does empowerment make a cafeteria plan (chapter 13 on benefits) more effective? Explain.
Yes it does, because it improves information so the plans can be improved (tailor made).
Otherwise employees will withhold information, due to lack of trust between employees and
employers.
Slides
› Basic knowledge of:
Employment Relationship
Worker Empowerment
E(mployee) S(hare) O(wnership) P(lan)
› Samuel Bowles about incentives - when the solution is a monetary one, ethical issues will play a
minimum role. The invisible hand is not always the case; people are not always selfish. So,
monetary rewards will not always work out. It is important to base relationships on trust. Trust is a
very important work condition. For managers and owners is this also important, because they will
get access to information of employees much quicker.
› Why is an economic approach of HRM useful? The key is to focus on how environmental
variables affect the outcome. Information, resources, constraints, decisions and incentives.
› What are the building blocks? Maximizing utility of employees/ value-added of organization
(economic approach).
› What are the limitations of the approach? Incentives do not always work out what we thought
(people are not always selfish), based on assumptions - they do not hold, not everyone is fully
involved (information asymmetry).
› Employment Relationship: sport market (i.e. temp agencies), but more often a long (trust) relation,
see Falk (no perfect substitution, imperfect information, switching costs). Joint surplus - strategic
1
Bianca van Elp
, behavior. Contingent contract. Implicit contract - intrinsic motivation. Importance of trust
(Helliwel & Huang).
› Explicit & Implicit Contracting: promises are problematic as they are hard to enforce. They are
used because complete formal contracts are usually impossible to write - too many contingencies,
too costly (e.g. Ford’s contract w/UAW). Some contingencies are unforeseeable. Lower
transactions costs (sometimes) - e.g. network structures. Some actions cannot be verified/ enforced
in a court (e.g. subjective performance evaluations). If one or both sides trust the other, we do not
have to rely on formal contracts and courts, or on constant negotiation.
› Empowerment/ Consultation: Worker empowerment: the extent to which the firm asks for input
from workers in firm decisions. It is the ability to communicate, express opinions, make
suggestions about working conditions. Compare with autonomy and decentralization - giving
workers the ability to communicate, express opinions, and make suggestions about the job and
working conditions. Some mechanisms: informal suggestion systems, open door policies, unions,
work councils, regular meetings, worker representative in board of the company, employee owned
firms. Benefits from empowerment: better information about worker preferences, more effective
implicit contracting (firm-specific human capital, seniority pay), better information about the job
(idiosyncratic information, cf teams, specific knowledge). Cost of empowerment: workers will
extract rents (maximize profit, not productivity). Unions? When workers work together, long term
relationships with firm, access to outside parties. Example: Grolsch a 400 year old brewery, was
family owned firm, now owned by SABMiller, last year first strike ever. When to empower? Large
difference in pay between good and bad times (cf Volkswagen), small difference between outside
opportunities and wage in bad times, young workers, specific knowledge, firm specific human
capital or career-based rewards system (older workers).
Figure 15.1
Figure 15.2
There is an optimum of empowerment. Example of Brukman: all added value goes to the
employees. This optimum depends on the complexity of the organization. People will be more
motivated, and lower labor turnover. After a certain point the empowerment rate will go down,
because you need continuous meetings to take decisions - when this is too often the added value
will decrease. The combination of the figures will lead to that the share-holder added value <
added value = less empowerment. There are more stakes in the company.
2
Bianca van Elp
,› Shareholders or stakeholders: approaches have different solutions. Example: Dutch Steelworks in
IJmuiden: formerly Hoogovens, then British steel, now Tata steel.
› What makes knowledge costly to communicate?
› Employee Ownership: extreme case of empowerment, is it good? This is what Gibbs thinks about
profit sharing: these are deeply flawed incentives plans (in any form) - performance measure
(repeat after me - it is a lottery ticket) and pay-performance shape (free-rider problem implies
essentially zero incentive). But Gibbs also says: what is good for employees is usually good for
the firm - prove and invest in themselves, have intellectual challenge in their jobs, develop and
implement new ideas and earn rewards for their contributions. Kruse et al. say: it works well
when HR-practices are aligned: complementarity of HR-practices, it is a solution for free-rider
effects (cf. former Yugoslavia). Kurtulus & Kruse: E(mployee) S(hare) O(wnership) P(lan) have a
dampening effect on unemployment rate. Lazear argues that they are expensive unemployment
insurances, but unemployment makes people unhappy.
› Conclusion: empowerment -> improves intrinsic motivation, improves productivity, improves
commitment and solves problems in the employment relationship. It will differ between firms,
e.g. the women of Brukman: they took over their own factory. Instead of being unemployed, they
become ‘owners’, and it became a success. It tells a story about how working in your company
will gain more satisfaction (information asymmetry, doing what you want, make your own
decisions).
Chapter 1 & 15
Chapter 1 - Setting Hiring Standards
1.1 An Example: Hiring Risky Workers
Example (p.3)
Wage employees: 100.000
Option 1. 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
Option 2. Potential employee: employee with talent. Can give -100.000 output or 500.000, but risky
Expected output Potential: 0.5*-100.000 + 0.5*500.000 = 200.000
Expected profit after 10 years: (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
3
Bianca van Elp
, long term you will see that the riskier one gives in average more profit than the conservative
employee.
4
Bianca van Elp
