Lecture 2: FSHC and Job Assignment. October 4, 2017 Hideo Owan Institute of Social Science

Transcription

1 Lecture 2: FSHC and Job Assignment October 4, 2017 Hideo Owan Institute of Social Science

2 Today s Topics Kinsler and Pavan (2015): Specificity of human capital Prendergast (1993, QJE) Sources of the tenure effect Estimation of the returns to firm specific human capital investment Abraham and Farber (1987) Neal (1995) Human Capital and Capital Structure Signaling theory of job assignment Prendergast (1992, JJIE)

3 Kinsler and Pavan (2015) Usual estimate of the returns to college major and occupational choice is subject to selection bias. Extended Roy s model by introducing college major choice as well as uncertainty regarding human capital and job finding probability. Structural estimation allows the authors to estimate the true returns to the occupational choice conditional on human capital and conduct counterfactual analysis about how people choose college majors had they known their initial human capital precisely in the first place.

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6 Developing A Structural Model What decision problems do they consider? What are the observables? What are the important unobservables?

7 Developing A Structural Model What decision problems do they consider? College major choice: compare the value function Occupational choice: find a related job or not. What are the observables? College major, SAT (math and verbal), GPA (by field), degree, occupational choice (relatedness), wage What are the important unobservables? Human capital (math and verbal)

8 Assumption,,,,,, (t=0,1) Initial math (verbal) ability is the sum of human capital and scholastic ability in math (verbal). (,,, ) is observable through SAT and GPA. (,,, ) determines productivity on job. Unobservable when deciding on college major. Revealed to the worker upon entering the labor market. Both human capital and scholastic ability improve by study at college.

9 Assumption Skills are priced differently depending on major choice and relatedness of job.,,,,,,,, Path dependent, a little different from standard Roy model. This assumption is useful in discussing the specificity of human capital. (,,, ) is general in the sense that they are used in many jobs. It is specific in the sense that wages change when the workers switch jobs (especially when switching from related to unrelated jobs.

10 Assumption Consider the following latent variable that determines the probability of finding a related jobs. :chosen field of study : exogenous shifter (labor demand sactors) State specific deviations from the national average of the fraction of workers in related jobs : random factor is known at the time of choosing college major Could be interpreted as the skill in finding a related job. This capture two things: (1) they are happy to choose an unrelated job; or (2) they could not find a more desirable job. Cannot conduct welfare analysis.

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14 Some other results Hard to know human capital when only ability is observed (scholastic ability has greater variations). Skills to find a related job affect a college major. Business and science major students are more likely to find related jobs. But, there is more uncertainty in finding a science jobs. What will happen if individuals are assumed to know their human capitals at the time of major choice. Business Science Other Data 26.12% 24.66% 49.22% Counterfactual 43.8% 30.0% 25.8%

15 Prendergast (1993, QJE) A risk neutral (homogeneous) worker with reservation utility r is employed in a risk neutral firm for a single period. Long term contract is not feasible r must be earned in expectation in both periods. Worker can be assigned to one of two jobs, Easy or Difficult: D or E. Before job assignment, a worker can acquire specific skills s= {0,1}. Worker u lity is U = w sc, where w is the wage and c is the psychic cost of acquiring specific skills.

16 Will the firm be able to induce the worker to acquire s? Two questions: 1. If the firm promises a higher wage conditional on skill acquisition, is promise credible? 2. If the worker committed to acquire skills in exchange for up front payment in 1st period, is this commitment credible? Promises and commitment become credible if the contracting is repeated: reputation mechanism. Anything else? YES! Assume that the firm can commit to wages as a function of job tasks (D or E). Why is this commitment credible? Actual job assignment is verifiable by a third party, although specific capital investment is not.

17 Analysis Assume specific capital is more productive in a difficult job: y D(0) y E(0) y E(1) y D(1) where y i (s) is the output as a function of job assignment i and investment s. 1. Training is productive in both jobs. 2. Efficient assignment requires trained workers to go to job D. Firm will promote workers iff yd(1) wd ye(1) we (1) Workers will train if w (2) D we c. Necessary and sufficient condition for w D and w E that satisfy (1) and (2) to exist: yd 1 ye 1 c (3) Efficient training implies: y 1 y 0 c (4) D (4) is weaker than (3): not all efficient training will be made feasible by optimal promotion policy. E

18 Implications 1. Shows why the return form the firm specific human capital has to be shared between firms and workers. 1. But, the first best cannot be achieved: when evaluation is not verifiable (e.g. subjective), not all efficient investment is made. Underinvestment still remains. 2. Explains why job titles exist and why wages (often pay ranges) are attached to them directly. - Explain well the finding in Baker, Gibbs and Holmstrom (QJE, 1994). 3. Using subjective evaluation for promotion decision is prevalent. - Consistent with that skill acquisition is not verifiable.

19 Implications 5. Job titles cannot be purely nominal in order for firms to induce human capital investment using promotion policy. The explanation is not relevant in a setting where every worker does the same job (academics, lawyers) other mechanism is necessary (e.g. up or out contract). 6. Prendergast model does not fit the Japanese job system. Jobs and pay rank are separated although they are correlated. What motivates workers to invest in firm specific human capital in Japan?

20 Empirical evidence for firm specific human capital 1. Long term employment relationships are common. 2. The probability of a job ending declines with tenure. 3. Wages rise with tenure (Hashimoto and Raisian 1985). Consistent with the model of firm specific human capital. But there are alternative explanations Deferred compensation as an incentive scheme = loan to the employer from the worker: it will be returned to the worker when she gets older. Selection due to job matching: workers with high match quality stay longer and those with low match quality quit (Jovanovic 1979).

21 Difficulty in estimating the return to firm specific human capital Consider the following econometric model: 2 2 lnw 0 1ED 2EXP 3EXP 4TEN 5TEN Tenure is an outcome of optimization by firms and workers (i.e. not exogenous bias). Not clear about the causality between high wage and tenure (or job changes). Unobservable characteristics that induce high wage less job changes long tenure. Implies the possibility of overestimation of the return to firm specific human capital. According to Abraham and Farber (AER, 1987), OLS estimated return to experience (tenure) is 3.5 (1.1) point higher wage per year. If half of the tenure return is shared between workers and firms, the true return to specific capital investment is 2.2 points.

22 Upward bias problem OLS estimate of TEN is upward biased. lnw ijt 0 1ED ijt 2EXP ijt 3TEN ijt i ij ijt Tenure is likely to be positively correlated with both i (unobserved ability) and ij (match quality). Possible interpretations of OLS tenure effect 1. Return on firm specific human capital 2. High wage jobs last longer composition bias in crosssectional estimates. i.e. ETEN [ ijt ij ] 0 3. More able workers tend to keep their jobs longer also yield composition bias. i.e. ETEN [ ] 0 ijt i

23 Abraham and Farber (1987) Basic Idea 1: adding final job duration will eliminate the correlation between tenure and the error term. i.e. E, Estimate Basic Idea 2: use as an instrument and use 2SLS. E,,, =0. Thus, the exclusion restriction is satisfied.

24 Abraham and Farber (1987) Both results show that the return to tenure is substantially smaller than the OLS estimate (see the next table). 1.1% increase per year % for managerial and professional jobs. 1.4% increase per year 0 0.3% (insignificant) for bluecollars. The remaining tenure effect may be due to deferred compensation.

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27 Discussions about the relevance of firm specific human capital Altonji and Shakotko (1987) employed the IV estimation strategy very similar to Abraham and Farber (1987) and showed that the return to tenure is minor. Topel (1991) has demonstrated that the return to tenure is still substantial in magnitude. 10 years increase in tenure raises the average male wage by 25%! Altonji and Williams (2005) resolved the differences between Altonji and Shakotko (1987) and Topel (1991) and showed that 10 years increase in tenure leads to 11% increase in the male wage. Neal (1995) indicates that industry specific human capital is more important in shaping the tenure effect. Lazear (2009) argues that most skills are general but the way each firm combines different skills to define jobs is firm specific.

28 Neal (1995) Motivation Some knowledge and skills are industry specific or occupationspecific. It has been discussed that they are general: If the labor market is competitive, workers capture the full return to the acquisition of such human capital. But, when the industry is not expanding or the demand for certain occupation is declining: A worker who leaves a job can not find another in the same industry or occupation. Such worker will incur some wage loss. The more switchers we have, the larger average wage loss we should observe among those who change jobs. Increase the tenure effect in the earnings function estimation.

29 Neal (1995) Data Displaced Worker Surveys (DWS) = a supplement of Current Population Surveys, equivalent to the labor force survey ( 労働力調査 ) in Japan. Displacement = involuntary job separation not related to individual performance. Not quit or dismissal. All respondents are asked if they had lost or left a job because of plant closings, an employer going out of business, a layoff from which the worker was not recalled, or other similar reasons in the past 5 years. Problem with the dataset: no data on industry tenure. Only observe the number of years since the last job separation. Only data of total experience after school and firm tenure. But can distinguish switchers and stayers. Estimate Stayers Switchers w ( )experience firm tenure+x w experience ( ) firm tenure+x + 1 1

30 Neal (1995) Analysis Need to deal with endogeneity bias. Selection bias: switch or stay is not determined randomly. People who fail to accumulate industry specific human capital are more likely to switch industry. Industries are heterogeneity: wages differ substantially across industries for observationally similar workers. Some workers earn economic rent and those high wage jobs are limited (two explanations: union coverage and efficiency wage). If most inter industry job switches flow from the high wage to lowwage industry, the estimated wage loss is greater than industry specific human capital. E[ switch=1]<0. E[ stay=1]>0. Solutions Use Heckman s two step estimators for selection bias. Include industry wage premium (coefficients of industry dummies estimated using a cross section regression) and union coverage Results: the return to industry specific human capital is 1% per year.

31 Human Capital and Capital Structure Berk et al. (2010), Graham et al. (2013), Chemmanur et al. (2013) How big is the wage loss associated with a bankruptcy? How can it be interpreted? Loss of firm (industry) specific human capital Loss of good match quality Loss of deferred payment Loss of efficiency wage How will the management take it into account as the cost of bankruptcy? Expected wage loss has to be compensated by wage premium additional cost of leverage. Note that marginal benefit of leverage (tax benefit) = marginal cost of leverage in the equilibrium (wage premium).

32 Discussion Can we distinguish between the loss of human capital and the loss due to breach of a relational contract? 22% loss for stayers and 47% (55%) loss for switchers (industry switchers) Suppose l is the loss of human capital in case of a bankruptcy and a firm with no debt is risk free. Tax benefit of having debt is. Expected total wage loss q is chosen such that where.

33 Optimization of Leverage Benefit and cost trd/a Net benefit Other cost of financial distress Loss of human capital D: debt

34 Specialized Companies Debt Ratios among Japanese Firms (median) 出典 : 牛島 (2015) Ushijima (2015) All Public Companies Debt Ratio Liquidity ratio Net debt ratio Debt Ratio Liquidity ratio Net debt ratio Diversified Companies Debt Ratio Liquidity ratio Net debt ratio

35 Why is job assignment important? Provides a unified framework for seemingly separate topics: Income distributions Organization of hierarchies Self selection bias Job search Mobility Hierarchy tournaments Job design

36 Information Assumptions in the Job Assignment Literature A worker is an experience good for her employer = her ability is gradually revealed to her employer. Any information held by a single firm is held by all firms (classical view): Harris and Holmstrom (1982). The information about a worker s ability is revealed only to the firm employing the worker: Greenwald (1979). The information is indirectly revealed to the outside potential employers through the worker s job assignment: Waldman (1984).

37 Job Assignment Model Productivity Job H Thresholds for efficient promotion Job L Job M Worker Ability

38 Waldman (1988) Illustration Illustration: promotion sends a signal to the outsiders. Worker s productivity Market wage Net Profit Job A $50,000 $40,000 $10,000 Job B $55,000 $50,000 $ 5,000 Implications: 1. Wage rates tend to be more closely associated with jobs than with ability levels; 2. Promotion may be often delayed and many job assignments are inefficient; 3. The severity of this inefficiency tends to be negatively correlated with the level of firm specific human capital in the firm.

39 x : if assigned to job 1 in the first employment period. x(1 s) : if assigned to job 1 in the second employment period. Ai : if assigned to job 2 in the first employment period. A (1+s) : if assigned to job 2 in the second employment period. i The Model Two period job assignment model: job 1 (easy) and job 2 (difficult). Ability is a random draw from an uniform distribution, U[A L,A H ], and revealed at the end of period 1. Outputs: Consider spot contracting.

40 Assumptions 1. All young workers are assigned to job 1: ( H L A A )/2 x. 2. Some workers are promoted in period 2: H A x. 3. The job assignment and wage rate offered to a worker is public information. 4. Free entry = competitive labor market.

41 Results under spot contracting With some regularity conditions about the market beliefs, there exists the unique equilibrium with the following properties: Every worker remains with his first period employer. Worker is promoted to job 2 only if A A A sx s A x i H * ( 2 )/(2 1). Wages are attached to jobs and: w 1 2 x. H w ( A A )/2.

42 Sketch of the Proof It could never be optimal for the firm to assign a worker to a job and then pay him less than the market wage. The firm will always pay the worker his market wage in period H 2: w x and w ( A A ) / Therefore, worker I will be assigned to job 2 if and only if the increase in production exceeds the increase in wage caused by promotion: A i is assigned to job 2 if and only if H A A (1 s) Ai (1 s) x x. 2 The firm pay out all the rent it earns later in period 1.

43 Prendergast (1992, JJIE) research questions Early promotion vs. late promotion Japan: workers who join large firms are typically not differentiated from their cohort for 12 to 15 years after their entry. US: there is a tendency to choose stars at an earlier stage and quickly move them to positions of authority. Why is there such a difference? Intuition: the secret of Japanese management is to make everybody feel that he is slated for the top position in the firm The paper examines the impact of early selection of stars on incentives to collect firm specific human capital.

44 Important features of the model Firm specific human capital that workers collect raises productivity, especially that of a difficult job, but its collection is not contractible.,, for all and, 1, 0, 1, 0 for all. Workers who don t invest are not promoted. i.e., 0, 0 The firm has private information on an employee s promotion prospects. All workers have the same reservation utility r. Three period model: ability is revealed in period 1 and investment in FSHC can be made in period 2. Two questions arise. Can firms credibly reveal information on promotion prospects before training? Should they do so? Should the firm use a fast track?

45 Analysis Wage depends only on the job assignment in each period for each contract. Two equilibria: only three types of contracts appear. Separating: star contract is offered to high ability workers who then invest in FSHC and basic contract is offered to the others. Pooling: pooling contract is offered to everyone and everyone invest. I would call it rat race equilibrium because too many workers invest.

46 Separating Equilibrium Basic contract Star contract (WIC) 2, 0, 0, 1 2 (FIC1) 2 (WIC+FIC1) is the wage premium the firm pays to commit. To whom would the firm offer a star contract?, 0, 1 2, 0 FIC2 Let be the threshold. (WIC+FIC1+FIC2),1,0,1,1

47 Pooling Contract Let be the threshold. 1 (WIC) Firm promote the worker if, 1, 1 (FIC) This inequality should be biding for,1,1 c c 1 a y D ( a,1) y ( a,1) E Note that a a s a p 1 a

48 Main Results Two sources of inefficiency Human capital Promotion investment Separating Insufficient Too few (minor) Pooling Excessive if Too few (serious) What affects the equilibrium choice? Centralized vs decentralized decision making. Labor market competition for high ability workers.

49 Pooling vs. Star Systems Japan US Decentralized decision-making Centralized decision-making Need to motivate lower-level employees All employees invest in firm-specific human capital Need to motivate managers Those who are not promoted lose motivation Delay promotion for all to create expectations that everyone has a chance to be promoted Identify talented employees at an early stage and promote them quickly. 49

50 Discussion One question is whether the assumption that the employer has private information about the worker s ability (promotion prospect) is reasonable. Yes! The employer knows better what qualities are important for the firm s business model. But, task assignment may reveal such private information in the pooling contract. Prendergast (1992) has another tournament based model of symmetric uncertainty (but I don t like it). Owan (2004) assumes symmetric learning to derive a similar result. Firm may want to offer different contracts to different worker groups (e.g. men and women) if ability distribution or cost of investment is different.