Efficiency Wages:Signals or Incentives? An Empirical Study of the Relationship between Wage and Commitment

Efficiency wage theories argue that firms induce their employees to work in a more disciplined way by paying high wages. Two basic mechanisms have been pointed out in economics about how these wage premia motivate employees. The incentives-driven ‘shirking model’ implies that employees who have a highly paid job work in a more disciplined way so as to avoid being dismissed. The “gift exchange” model is based on the assumption that high wages change the relationship between employer and employee. Empirical evidence on the incentives approach is mixed and a thorough competitive testing against the gift exchange model was not possible due to the fact that the latter was not worked out enough. However, there is a relational theory of efficiency wages which is worked out in detail in order to allow direct competitive testing. This relational signaling approach, as it is called, is based on framing effects and comes to specific hypotheses about the conditions under which efficiency wages work. These hypotheses contrast sharply with predictions from the incentives approach. The paper presents an empirical test of the theories and shows that the data clearly reject the incentive-based predictions and confirm the relational signaling predictions