Employer moral hazard and wage rigidity. The case of worker owned and investor owned firms

This paper studies wage and employment rigidity in a labor relationship in different organizational contexts. In investor owned firms, if the contract allows for flexible wages, the employer may have an incentive to opportunistically claim low demand and cut wages. Anticipating the employer's opportunism, workers may demand a fixed-wage contract, which may lead to inefficient layoffs in the presence of negative demand shocks. In contrast, in cooperatives, where the employer does respond to workers, the risk of employer's opportunism diminishes and results in an equilibrium characterized by more flexible wages and fewer layoffs. By developing these arguments we challenge the traditional explanation of workers' preference for fixed wages based on risk aversion. To support our claim, we develop a principal agent model in which there is incomplete information on both sides of the employment relation. We model both the case of investor-owned firms and worker cooperatives. (C) 2014 Elsevier Inc. All rights reserved.