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Intermediate Microeconomics

11. Incentive Pay

Thus far, we have studied what are called spot labor markets, in which firms and workers interact to determine equilibrium wages and employment. In these Pencasts, we examine in more detail the employment contract between workers and firms. The terms of the labor contract affect both the productivity of workers and the profits of firms, as employers rarely observe a worker's marginal product and workers prefer to earn high wages accompanied by exerting as little effort as possible. As a result, firms could use different compensation schemes, such as piece rates, time rates and delayed compensation contracts. We cover each of these different compensation schemes as well as the determination of an efficiency wage.

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Piece and Time Rates

This Pencast cover the basic idea behind two different types of compensation schemes: piece and time rates. [Play Pencast]

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Piece Rates and Worker Effort

This Pencast illustrates how worker effort and, in particular, differences in the cost of exerting effort, leads to different levels of productivity and different amounnts of compensation when the piece-rate method is used. [Play Pencast]

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Time Rates and Worker Effort

This Pencast illustrates how worker effort is unresponsive to differences in the cost of exerting effort. In this situation, workers only produce the minimum level of output required, which is easily monitored by the firm. [Play Pencast]

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Effort, Ability and Compensation

This Pencast discusses and demonstrates why "high-ability" workers sort into piece-rate jobs and "low-ability" workers sort into time-rate jobs. Thus, the ability of a worker affects what type of job a worker prefers based on their utility under different compensation schemes. [Play Pencast]

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Constant Wage and Upward-Sloping Age-Earnings Profiles

This Pencast discusses and illustrates an upward-sloping age-earnings profile, which can be used to reduce employee shirking by paying workers less in the early years and more in the later years of their career. [Play Pencast]

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Efficiency Wage

This Pencast defines and illustrates how an efficiency wage can be determined. It is shown that an efficiency wage is a wage that equals the worker's average product. [Play Pencast]

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