Some musings on Efficiency Wage Theory…
Basically efficiency wage theory is the idea that you will pay way above average wages and attract the best employees to your organization. These bright workers will be very productive, more than most employees, because you'll have a group of the best and brightest in your field working together. As well, those workers, because of their high wage and fear of losing it, won't be slacking off and there will be less risk of them leaving to work elsewhere. And if you are in a developing country, your employees may earn enough from these increased wages to buy food and medicine. It's good to have employees who are paid enough to eat. Healthier employees can be more productive!
So why doesn't everyone pay efficiency wages? Obviously, the cost. You are paying above market wages to attract the best and the brightest, and if enough other firms start doing the same that new higher wage will become the new market wage and you will have to raise prices again to attract those superstar employees.
Also, efficiency wages can increase unemployment. You see, if I as a manager hire a group of superstar employees who are much more productive, all of a sudden instead of hiring ten semislickerss who barely get the job done, I only need to hire 5 top guns. Those other five fools are off on the street looking for new work.
And in the developing world, rural folk with no plan other than being a peasant farmer in the countryside may leave their farms and come into the cities, without employment, and camp-out on the hope that someday they too could win the lottery and be paid an efficiency wage. And back again to the developed world, a similar process could take place as discouraged workers who had quit looking for jobs, upon seeing the mere chance of such high pay may re-enter the labor market. These people weren't counted as unemployed before, as they weren't looking for work, but as they start searching for chances to get into these efficiency-wage paying jobs they are now counted as unemployed people and will be until they find one of those good paying gigs or again drop out of the labor force (thus raising the measured unemployment rate and the size of the labor force).
If these new higher wages become the regular market wage demanded by that industry, and something similar takes place throughout the work force risk bringing on the higher wages, then higher wages (people having more money and thus being able to spend more money and driving up prices by doing so) will cause inflation.
And if these new higher wages raise the price levels too much, firms may find it cheaper to start automating more of their processes or off-shoring work to cheaper markets ...butt again, maybe the quality of their workers will keep them from risking that.
So why am I personally writing about efficiency wages? Well, first off, it'd be nice to work for a company that paid efficiency wages. I wouldn't complain about being paid way over the market rate for the work I do. But my interest actually is more from a development perspective, looking at how corporate policies of big companies can implement this idea to increase their productivity and in the long-run increase the size of markets available for their goods. That part, and what is below elaborating on it, includes my ideas. The rest above is basically just laying the groundwork. But back to my example... (not a real case, just my own hypothetical, so any lawyers for companies mentioned below, no insult is meant to your firms, though nothing negative is stated about the firms themselves either).
Let's say Adidas, to take advantage of the new Central American Free Trade Agreement, decides to open a factory in Nicaragua, and they decide to pay efficiency wages. They want the best and the brightest employees, or at least in minimum they want the people working for them to earn enough to be well-fed. They find they could pay less and reduce their costs, but the lower wages and less well-nourished workers will lead to lower productivity, absenteeism, higher worker turnover, and in today's global media world possibly a bad public image.
So Adidas opens this plant and has great productivity, its workers are well fed, and its workers can feed their children well too, and those children having better nutrition do better in school. Someday, those better-educated children will be even better employees for Adidas and maybe even earn enough money to purchase a pair of Adidas sneakers! (Remember these efficiency wages are a lot more than the local labor market pays, but still far less than a worker in the US would receive for comparable work).
Adidas says great, this plant is our most productive in the developing countries we work in, our workers look healthy, we have tons of people who want to work for us, and hey, just to top things off we opened a school for our employees and gave them very basic health insurance. Nobody in this plant is going to risk slacking off and losing a gig like this! Let's bring in the world media and show them how great things can work if you start paying higher than normal wages to your workers in a developing country.
So the cameras roll on in .... but on arrival they see this is a really really poor neighborhood. After a few years of operating the plant in this matter there has developed one area of town approaching middle class, close to the factory where many of the Adidas workers have been able to build new, though simple, homes. And nearby is the Adidas provided school, and the clinic where a nurse runs the show and once a week a doctor comes in to help with what he can. Preventative medicine through the clinic has kept worker productivity high and illness among the workers and their families far lower than the norm for this country. But the rest of the town is still really poor. A gap is emerging between the "rich" factory workers and the poor, but hey, a few years ago everyone was dirt poor, so that's an improvement right? And more workers from nearby towns, hearing of this, decide to camp out either with friends or family or build outright shanty-towns on the outskirts of town as they hope to eventually get a piece of the action.
But now to the factory.... past the nice-ish new community where the workers and their families live, into a not beautiful place but okay where they see healthy looking workers who seem very happy and healthy, and managers who boast to the cameras what high levels of productivity this factory turns out. Lou Dobbs smiles for the camera and talks about what a great idea the Regional VP of Adidas had in suggesting that factory be placed there and the employees be paid those efficiency wages.
Reebok and Nike and New Balance's CEOs all think, "Hmm..... maybe I should do that too?" And they do. And they hire workers at the efficiency wage too. And they also give them the "great" by local standards benefits package. Less Nicaraguans are leaving for the US or nearby Costa Rica to find work, in fact people from neighboring countries begin to cross the borders INTO Nicaragua to find work! But now there are smaller labor forces in those countries, and so far the new factories are only hiring the top of the top, these immigrants without legal working papers are adding to the shanty-towns as the gap between the rich and the poor becomes bigger and bigger.
But Reebok and Nike and New Balance have success as well, and other shoe companies begin to move in. But now the only workers remaining are starting to be the shanty-town dwellers, the top employees are already divided amongst the first companies that moved in and put up their big plants. And when those semi-skilled workers from the big early plants leave a job or lose a job, they quickly get scooped up because of their experience unless they've done something really bad to lose the job. So some of the efficiency wage employees get a little complacent because the high efficiency wage is beginning to become the market wage. And now with the higher wages employers are charging more and prices are higher all around. Inflation has set in. Companies have to pay more to keep getting the best workers, but the majority of the population still is without work and more people keep emigrating to this town for the slight chance of getting into the efficiency wage high paying jobs. Maybe once they arrive they can make a contact who will get them in?
And so now the poor rural farmers who left their farms for the cities but didn't get the efficiency wage paying factory jobs are worse off as they wait in the slums unemployed and paying inflationary prices. And a small percent of the original dwellers that did get those top jobs are better and better off as their wages go up and up and their kids get a better education and even some health benefits as part of the deal offered to them to keep around the best employees.
Does this experiment in efficiency wages leave the society better off?
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