Fortin – Econ 561 Lecture 4A

IV. Wage Differentials across Groups and Labour Market Discrimination

11. Labour Market Discrimination

A. Theory of Discrimination

1.What is Economic Discrimination?

2. Theories of Discrimination

a. Taste-Based Discrimination

b. Statistical Discrimination

c. Other Models

Fortin – Econ 561 Lecture 4A

11.A.1. What is Economic Discrimination?

The study of labour market discrimination comes from the observation that there are long-lasting

differences in the average wage rates or income among groups of workers, who are presumed to be

equally productive or have equally productive capacity.

Glass ceilings (sticky floors) which correspond to the under-representation (over-representation) of

certain groups in the upper (lower) tail of the wage distribution have recently received more attention.

In the United States, studies have traditionally focused on racial (black-white), ethnic (Hispanic)

and gender wage differentials (O’Neill and O’Neill, 2005).

The study of other economic outcomes, such as employment, housing, etc. appeal to the concept

of occupational/industrial segregation and spatial segregation, which is interlinked with

discrimination.

Fortin – Econ 561 Lecture 4A

More recently there has been some interest with regards to persons with disabilities. The role of

beauty, height and weight has also been studied (e.g. Hamermesh and Biddle, 1994, 1998;

Mobius and Rosenblatt, 2006; Case and Paxson, 2008).

Drawing from psychology, recent experimental studies have also examined the effects of

observed characteristics, such as status or group identity, on the way people are treated

differently (e.g. ethnic identity: Ashkenazic Jews vs Eastern Jews in Fershtman and Gneezy,

2001).

In Canada, studies have traditionally focused on gender and language (French-English) wage

differentials, and more recently on wage differentials across more ethnic groups including

aboriginals (Pendakur, Pendakur and Woodcock, 2006) and persons with disabilities.

Racial or ethnic profiling has introduced another dimension in which instances of discrimination

can be invoked.

Fortin – Econ 561 Lecture 4A

In Europe, the poor labour market outcomes of 2nd generation immigrants have provoked severe

incidents of civil unrest. Discrimination on the basis of religious beliefs (e.g. Muslims in the

UK) has come to the fore.

Sexual orientation is also another type of group membership that is included in most human

rights codes which protect against discrimination through litigation.

Discrimination raises problems of inequity and of inefficiency.

Many countries also have responded to these perceived inequities by enacting equality promoting

legislation.

In the United States, legislations have taken the form of “affirmation action” legislations which

focus on “equality of opportunities” rather than “equality of outcomes”.

More recently however, there have been reactions and limitations to affirmative action perceived

as “reverse discrimination”.

Fortin – Econ 561 Lecture 4A

In Canada, both types of legislations have been enacted under the “employment equity” federal

legislation and “pay equity” (“comparable worth”, “pay fairness”) mostly provincial legislation.

Canada’s two more populous provinces (Quebec and Ontario) have been world leaders in

enacting pro-active pay equity legislation that apply to the private, as well as public sectors. Most

other provinces have complaint-based legislation applying to the public sector.

The efficacy of these legislations is doubtful (Baker and Fortin, 2004).

The use of “Implicit Association Test” (Bertrand, Chugh, and Mullainathan, 2005; Rooth, 2010) has

uncovered a new frontier where discriminatory behaviour can emerge from sub-conscious levels.

The existence of unconscious bias suggests that introducing detailed processes that appeal to the

analytical mind in hiring for example, might be needed to circumvent implicit biases

Source: Jacobsen (2007)

Source: Jacobsen (2007)

440 Michael Baker and Marie Drolet

Figure 7 Female-Male Wage Ratios, Full-Time Workers Age 25-54, by Marital Status

Married/Common Law

Year

Source: Authors'calculations from the Survey of Work History (SWH), Survey of Union Membership (SUM), Labour Market Activity Survey (LMAS), Survey of Labour and Income Dynamics (SLID), and Labour Force Survey (LFS).

Table 3 The Average Gender Wage Ratio by Province for Selected Periods

1981 1987-1989 1996-1998 2006-2008

nf 0.75 (9) 0.73 (9) 0.79 (9) 0.83 (8) PEI 0.83 (1) 0.81 (1) 0.88 (1) 1.00 (1) ns 0.76 (6) 0.79 (2) 0.83 (3) 0.89 (3) nb 0.82 (2) 0.74 (8) 0.81 (7) 0.87 (6) qc 0.81 (3) 0.77 (4) 0.83 (3) 0.89 (3) on 0.76 (6) 077 (4) 0.84 (2) 0.85 (7)

mb 077 (5) 0.78 (3) 0.83 (3) 0.90 (2) sk 0.81 (3) 0.75 (6) 0.80 (8) 0.88 (5) ab 071 (10) 0.75 (6) 0.78 (10) 0.78 (10)

bc 0.76 (6) 0.72 (10) 0.82 (6) 0.83 (8)

Notes: Provincial rank in parentheses.

Source: Authors'calculations from the Survey of Work History, Survey of Union Membership, Labour Market Activity Survey, Survey of Labour and Income Dynamics, and Labour Force Survey.

Canadian Public Policy - Analyse de politiques, vol. xxxvi, no. 4 2010

This content downloaded from 137.82.185.238 on Tue, 12 Nov 2013 14:23:02 PMAll use subject to JSTOR Terms and Conditions

Source: Baker and Drolet (2010)

Fortin – Econ 561 Lecture 4A

In economics, labour market discrimination is defined as a situation in which persons who provide

labour market services and who are equally productive in a physical or material sense are treated

unequally in a way that is related to an observable characteristic such as race, ethnicity or gender.

More formally following Cain (1986), let Y represent the labour market outcome of interest, X

represent a vector of productivity characteristics that are exogenous to the process of discrimination,

and 0Z denote the fact that a person is in the majority group and 1Z if in the minority group.

Assuming a linear and additive model,

ZXY , (1)

if 0 we have evidence of discrimination

We define as labour market discrimination (the economist’s view)

0,1, ZXYEZXYED A

Fortin – Econ 561 Lecture 4A

But what if all X characteristics are endogeneous, any difference in X across groups is attributed to

the process of discrimination under study and the unconditional difference may be a more appropriate

measure of discrimination (the layman’s view)

01 ZYEZYED

If a labour market determinant such as educational attainment depends of inputs supplied earlier in

life, called pre-market characteristics, then differences in labour market outcomes will not be

attributable to labour market discrimination.

These pre-market factors are increasingly including non-only cognitive skills (such as IQ, test scores,

etc.) but also non-cognitive factors (self-confidence, competiveness, etc.)

Discrimination studies are also concerned with issues of “glass ceiling”, the inability of certain

groups to reach the higher pay echelons and “sticky floors”, the concentration of certain groups at

longer pay echelons.

Source: Altonji and Blank (1999)

Nicole

Rectangle

Fortin – Econ 561 Lecture 4A

11.A.2. Theories of Discrimination

The main models of discrimination can be classified into 2 broad classes depending on the basis for

discrimination:

The first is based on taste or prejudice some members of the majority group A against

interacting with members of the minority group B

The second is statistical information by employers in the presence of imperfect information

about the skills or behavior of the minority group

Other theories (efficiency wage models, principal-agent models) introduce imperfect

information into taste-based models of discrimination

The neoclassical theories of discrimination are generally set within a competitive framework with the

exception of the monopsonistic model and are demand-side driven.

The supply-side of the labour market is effectively neutralized by the assumption that minority and

majority groups are equally productive.

Fortin – Econ 561 Lecture 4A

Discrimination can lead to

1) unequal treatment between individuals from the two groups

2) unequal outcomes (e.g. wages) for all members of a particular group

3) segregation by establishments or occupations, that is the unequal representation of different

groups with equal productivity and motivation

a. Taste-Based Discrimination

Taste-based perspectives of discrimination (Becker, 1957) are based on the notion that

discriminating parties have a preference for some groups and an aversion or a prejudice towards

others, even when they are equally productive.

Segregation is often an outcome of his models or a means of mitigating discrimination.

These types of prejudice can be lead employer, employee or customer discrimination

o Which may call for different types of remedy

Fortin – Econ 561 Lecture 4A

When an employer is prejudiced against a minority group, denoted B , he incurs a psychic cost 0d

that acts to rise the cost of hiring the minority member to dwB

That is, firms will maximize:

U = p F(NB + NA) − wANA − wBNB – dNB

where p is the price level, F is the production function, Nj is the number of workers of group j =

{A,B}, and wj is the wage paid to members of each group.

Let G (d) denote the CDF of the prejudice parameter d in the population of employers. Employers

discriminate to varying degrees so that there is a distribution of di.

The optimal number of workers hired at each firm is determined by the solutions to

pF’(NA) = wA

pF’(NB) = wB + d

The market demand for A and B workers will depend on the distribution of distribution of di.

𝑁𝐴𝑑(𝑤𝐴, 𝑤𝐵; �̅�) = 𝑁𝐴

𝑆(𝑤𝐴) 𝑁𝐵𝑑(𝑤𝐴, 𝑤𝐵; �̅�) = 𝑁𝐵

𝑆(𝑤𝐵)

2

Or,

The height of the dark curve in the above figure gives the share of firms that choose to employ white workers as a function of the racial wage gap, wW - wB.

Switching the horizontal and vertical axes in the above figure shows that we can think of the inverse of (1-G(d)) as the market’s relative demand curve for white labor as a function of its relative price, wW - wB. With fixed supplies of white and black labor, equilbrium occurs at the intersection of this demand curve and a vertical supply curve:

Predictions are that an increase in the relative supply of the “discriminated-against” group (B) (moving

θ from θS

0 to θ

S

1) raises the equilibrium racial wage gap, wW - wB (note that this is the opposite

of some sociological theories). A decline in discriminatory tastes (a downward shift of the relative demand curve for while labor) reduces the equilibrium gap (and could make it negative).

d 𝑑 𝑑 0

1-G(d)

wW - wB

1

θ

𝑑

𝑑

0

1-G(d) (demand for W workers)

(wW - wB )1

1

1 θS

0 θ

S

1

(wW

- wB )

0

Source: Kuhn (2010)

Fortin – Econ 561 Lecture 4A

Implications of the model:

1) Under the free entry hypothesis, if the economy is composed solely of employers having a prejudice

toward workers of group B, the members of this group obtain a wage wB =pF’(NB)- d

Individuals in the nondiscriminated group obtain a higher wage, equal to their productivity 𝑊𝐴 =𝑝𝐹′(𝑁𝐴)

In this setting, if the labor supply of both groups rises with wages, individuals in the discriminated

group are, all other things being equal, employed less often.

The size of the wage differential between the two groups will be set by the marginal employer having

some aversion di > 0 but still willing to hire a worker of group B (provided of course that at a wage

𝑊𝐴 = 𝑊𝐵 there would not be enough employers to hire all workers of group B)

Taste discrimination by employers thus leads to lower remuneration and less employment for the

discriminated group

Fortin – Econ 561 Lecture 4A

To the extent that there is a distribution of di, B workers will be employed by the least prejudiced

firms and that A and B workers will be segregated by employer in the labour market.

The model can be extended for the prejudice to apply only when B workers work in certain types of

jobs, then we will get occupational segregation.

2) If, however, there are employers who experience no prejudice against individuals in group B and if

these employers can freely enter this labor market, the wage difference between the two groups will

vanish as a result of the competitive equilibrium.

Under perfect competition, the null profit condition entails that the workers of group A and B obtain

the same wage equal to their productivity, and so 𝑊𝐴 = 𝑊𝐵 = 𝑝𝐹′(𝑁)

This same condition also entails that the employers experiencing an aversion towards workers of

group B refrain from hiring these workers.

Fortin – Econ 561 Lecture 4A

The preference of certain employers for discrimination results in segregation. The employers who

discriminate employ only workers from group A, while the others employ workers from both groups

indifferently

The more prevalent and the stronger employers’ discriminatory taste and the larger the number of B

workers seeking employment the larger the market wide wage gap )( BA ww

o If there are enough non-discriminating employers, then discrimination is competed away.

A controversial aspect of Becker’s model of employer discrimination is the notion that such

discrimination should not survive in the face of market forces because

In the short run, non-discriminating employers should out-perform discriminating employers

because they are willing to hire the cheaper but equally productive inputs.

Minorities that are discriminated against should move at the margin to employers that do not

discriminate.

As capital moves to non-discriminating firms, in the long run these employers should expand and

discriminating ones contract, until discriminatory wage differentials are eliminated and the law of

one price prevails. That is, if the assumption of zero profit in the long-run equilibrium in

competitive market holds.

prejudice and wages 779

Fig. 2.—Relationship between racial tastes and the relative wages and relative supply ofblacks and whites. The figure shows how the equilibrium ratio of black to white wagesresponds to three sets of market conditions. When the relative supply of black workers issmall relative to the number of unprejudiced employers, as is the case when supply is asdepicted by , the marginal discriminator is unprejudiced and there is no racial wageS1

gap in equilibrium. When the distribution of racial preferences among employers is heldconstant, a shift out in the relative supply of black workers (from to ) requires thatS S1 2

more prejudiced employers hire blacks, and the ratio of black to white wages falls fromone to R. When the relative supply of black workers is held constant, an increase inprejudice among employers likely to be the marginal discriminator (which causes therelative demand curve to rotate from ABD to ), further reduces the equilibrium ratio′ABDof black to white wages to .′R

the distribution of prejudice among employers are such that blacks canall be hired by totally unprejudiced employers.

The foregoing suggests that if racial wage gaps were empirically re-lated to the average and the marginal level of prejudice among em-ployers, Becker’s model predicts that only with the latter measure shouldthere be a systematic relationship. The effort to test this propositionempirically is complicated by the fact that, even if the complete distri-bution of prejudice among employers were known, it is impossible toknow ex ante which employer is the marginal one. Becker’s originaldiscussion does suggest one simple measure for the prejudice of themarginal employer that should hold under particular conditions. Spe-cifically, if firms are of equal size and if p is the percentage of blacks in

Source: Charles and Guryan (2008)

776 journal of political economy

Fig. 1.—Relationship between census division black-white wage gap and two prejudice-related questions from the GSS.

First, we find that racial wage gaps are much more closely related tothe level of prejudice of the “marginal” person in the distribution thanthey are to average levels of prejudice. We further show that it is onlyprejudice in the left tail of the prejudice distribution that seems tomatter for wage gaps; wages do not vary at all with the prejudice of themost prejudiced persons in a state. Importantly, the foregoing resultsare from regressions that control for the racial makeup of states. Finally,we show that the fraction of a workforce that is black, with prejudice

Source: Charles and Guryan (2008)

Fortin – Econ 561 Lecture 4A

Becker realized that not all sectors of the economy are perfectly competitive. So that one might expect

more discrimination in less competitive areas of the economy.

Goldberg (1982) models racial sentiment slightly differently than Becker, representing it not as distaste

for blacks but rather as nepotism, or favoritism toward whites which may be more persistent.

Fortin – Econ 561 Lecture 4A

This impact of competitive market forces at reducing discrimination need not to apply to prejudices

emanating from co-workers and customers.

The basic idea of employee (or co-worker) discrimination is that some members of the majority

group A are prejudiced against group B members and do not like to work with members of the

minority group, if forced to do so they will act as if their wage was A

w

A

w

A wdwdw )1( where

0wd is a prejudice coefficient.

Segregating workers should eliminate group wage differentials

We should get segregation by occupations but not necessarily a wage differential unless workers A and

B are forced to work alongside

Fortin – Econ 561 Lecture 4A

With consumer discrimination, prejudiced consumers in group A get less utility if they purchase

from a group B member than from a group A member. They act as if the price was )1( cdp .

Example: waiters in fancy French restaurants vs. waitresses in Diners

The effect of such discrimination on wages is reduced to the extent that B members can serve only B

customers and unprejudiced A customers, or to the extent that B work in occupations without

consumer contact.

Holzer and Ihlanfeldt (1998) use data from a survey of employers in four large metropolitan areas in

the United States to show that the racial composition of an establishment's customers has sizable

effects on the race of who gets hired, particularly in jobs that involve direct contact with customers and

in sales or service occupations.

o They also find that the race of customers affects wages, with employees in establishments that

have mostly black customers earning less than those in establishments with mostly white

customers.

Fortin – Econ 561 Lecture 4A

Kricheli-Katz1 and Regev (2016) analyze a unique and large data set containing all eBay auction

transactions of most popular products by private sellers between the years 2009 and 2012.

eBay does not reveal the gender of users, but the authors argue that buyers are discern the gender of the

seller on the basis of typical information provided in postings.

They find that women sellers received a smaller number of bids and lower final prices than did equally

qualified men sellers of the exact same product.

o On average, women sellers received about 80 cents for every dollar a man received when

selling the identical new product and 97 cents when selling the same used product.

Taste-based gender discrimination may also emanate from families in gender preferences for off-

springs or educational choices, unequal division of household tasks.

Table 2. OLS regression models predicting the number of bids and final price: eBay auctions 2009 to 2012. All regressions include year, startmonth, end month, start day, end day, duration and product fixed effects.

(1)Bids

(2)Price

(3)Log price

(4)Log price

(5)Log price

(6)Log price(gift cards)

Woman −0.885*** −4.880*** −0.054*** −0.029*** −0.056*** −0.068***

(0.027) (0.306) (0.002) (0.002) (0.003) (0.016)

Woman × new −0.190***

(0.006)

Woman buyer 0.030***

(0.003)

Card title price 0.006***

(0.000)

New 1.198*** 29.447*** 0.212*** 0.265*** 0.210*** −0.236

(0.041) (0.470) (0.003) (0.004) (0.005) (0.189)

Percent positive feedback 0.013** 0.081 0.001 0.001 0.000 −0.005

(0.004) (0.051) (0.000) (0.000) (0.001) (0.003)

Reputation 0.003*** 0.023*** −0.000*** −0.000*** −0.000*** −0.000

(0.000) (0.002) (0.000) (0.000) (0.000) (0.000)

Reputation × reputation −0.000*** −0.000*** 0.000*** 0.000*** 0.000*** 0.000

(0.000) (0.000) (0.000) (0.000) (0.000) (0.000)

Years in eBay 0.013*** 0.248*** 0.014*** 0.014*** 0.013*** 0.013***

(0.003) (0.039) (0.000) (0.000) (0.000) (0.002)

Start price −0.036*** 0.487*** 0.002*** 0.002*** 0.002*** 0.001***

(0.000) (0.001) (0.000) (0.000) (0.000) (0.000)

Reserve (dummy) 0.446*** 43.648*** 0.265*** 0.265*** 0.279*** 0.361***

(0.061) (0.702) (0.005) (0.005) (0.008) (0.078)

Bold title 1.851*** 36.857*** 0.155*** 0.155*** 0.162*** 0.020

(0.060) (0.687) (0.005) (0.005) (0.007) (0.085)

Number of pictures 0.367*** 3.988*** 0.037*** 0.037*** 0.039*** −0.000

(0.007) (0.084) (0.001) (0.001) (0.001) (0.026)

Stock photo −0.072* 1.474*** 0.016*** 0.016*** 0.015*** 0.029

(0.033) (0.380) (0.003) (0.003) (0.004) (0.029)

Same state −0.110* −2.079*** −0.009* −0.008* −0.002 −0.033

(0.046) (0.534) (0.004) (0.004) (0.006) (0.030)

Constant 19.520*** 186.958*** 4.819*** 4.808*** 3.752*** 2.545***

(0.532) (6.124) (0.041) (0.041) (0.057) (0.351)

R2 0.354 0.703 0.742 0.743 0.737 0.637

n 615,735.000 615,115.000 615,115.000 615,115.000 259,777.000 10,979.000

*Significance at the 95% level. **Significance at the 99% level. ***Significance at the 99.9% level.

R E S EARCH ART I C L E

Kricheli-Katz and Regev Sci. Adv. 2016; 2 : e1500599 19 February 2016 5 of 8

on March 2, 2016

http://advances.sciencemag.org/

Dow

nloaded from

Washington Post-Kaiser Family Foundation-HarvardUniversity Gender Poll ResultsThursday, March 26, 1998

This Washington Post/Kaiser Family Foundation/Harvard University study is based onrandom telephone interviews with 1,202 adults on Aug. 14-Sept. 7, 1997. The margin oferror is plus or minus 3.0 percentage points.

………35. (Asked of half sample) For each of the following, would you personally prefer todeal with a man or a woman?

A. Elementary school teacher Doesn't Matter/ No Man Woman Same (vol.) opinion9/7/97 All 8 61 30 *9/7/97 Male 5 65 30 09/7/97 Female 11 58 31 *

B. Electrician or plumber Doesn't Matter/ No Man Woman Same (vol.) opinion9/7/97 All 62 5 32 *9/7/97 Male 61 3 36 09/7/97 Female 64 7 29 *

C. Nurse Doesn't Matter/ No Man Woman Same (vol.) opinion9/7/97 All 5 67 29 *9/7/97 Male 6 63 31 09/7/97 Female 4 70 26 *D. Insurance agent Doesn't Matter/ No Man Woman Same (vol.) opinion9/7/97 All 31 22 47 *9/7/97 Male 26 20 54 09/7/97 Female 35 25 40 1E. A supervisor at work Doesn't Matter/ No Man Woman Same (vol.) opinion9/7/97 All 38 24 38 *9/7/97 Male 39 15 46 *9/7/97 Female 37 33 30 1

Source: Holzer and Ihlanfeldt (1998)

Fortin – Econ 561 Lecture 4A

b. Statistical Discrimination

The basic premise of this literature pioneered by Phelps (1972) and Arrow (1973) is that firms have

limited information about the skills and turnover propensity of applicants, in particular young

workers.

Firms thus have an incentive to use easily observable characteristics such as race or gender to

“statistically discriminate” among workers if these characteristics are correlated with performance.

Under statistical discrimination, individuals having identical abilities but belonging to different groups

do not have equivalent career paths on account of the average quality of the group

In the Unites States, it is illegal to make hiring, pay or promotion decisions based on predictors about

workers behavior (productivity, absenteeism, turnover, etc.) by race or gender even if such predictions

are statistically rational forecasts given the information set available to the employer.

There are 2 main strands to the statistical discrimination literature, both based on feedback effects from

statistical discrimination

Fortin – Econ 561 Lecture 4A

1) the first investigates how incorrect prior beliefs about the productivity of group members can

influence pay and hiring decisions

Consider a labor market in which agents have zero opportunity cost of working and two different

levels of productivity:

o A low level, ℎ− = 0

o A high one, ℎ+ > 0

Employers evaluate the performance of workers by using hiring tests, trial periods or training.

The inefficient workers have a probability 𝜋 ∈ [0,1]of passing the test and being wrongly taken for

efficient workers

A posteriori probability, denoted by 𝑃𝑟{ℎ = ℎ+|𝑠𝑢𝑐𝑐𝑒𝑠𝑠} is given by:

𝑃𝑟{ℎ = ℎ+|𝑠𝑢𝑐𝑐𝑒𝑠𝑠} =𝑃𝑟{ ℎ = ℎ+𝑎𝑛𝑑 𝑠𝑢𝑐𝑐𝑒𝑠𝑠}

𝑃𝑟{𝑠𝑢𝑐𝑐𝑒𝑠𝑠}=

𝜋

𝜋 + (1 − 𝑝)𝜋

where 𝜋 denotes the probability of outcome of success and ℎ = ℎ+ and 𝑝 the probability that

inefficient worker passes the test

Fortin – Econ 561 Lecture 4A

For the employer, the expected productivity of a person who passes the test is ℎ+ ∙ 𝜋/𝜋 + (1 − 𝑝)𝜋

With free entry condition, the latter also represents the wage of a worker who has passed the test

The wage is decreasing with the probability 𝜋 that inefficient workers pass the test. It constitutes a

source of statistical discrimination in groups believed by employers to contain a high proportion of

inefficient workers.

o An increased probability 𝑝 of failing the test has a negative impact on the wage.

Statistical discrimination implies that individuals endowed with identical productivity may have

different wages because they belong to different groups

However, it does not explain why individuals of different demographic groups persistently receive an

average pay lower than their counterparts with identical abilities, when performance can be repeatedly

observed.

Indeed, repeated observations of one's performance ought to cause employers arrive sooner or later at

an estimate of its true value, which is independent of membership in a group (Cain, 1986; Arrow,

1998)

Fortin – Econ 561 Lecture 4A

But with this type of discrimination, incorrect prior beliefs can be self-fullfilling when workers are

offered a skilled job if they invest in training.

If firms initially think that fewer group 𝐵 members are qualified to benefit from the training,

this will influence the investment decision of group 𝐵 in a way that confirms the firm’s prior

Even if the 𝐴 and 𝐵 workers have identical skills and the same training cost distribution and

even if firms update priors in a sensible way then stereotypes that are initially negative may

become self-confirming

2) the second concerns the consequences of group differences in the precision of the information that

employers have about individual productivity: the imperfect information takes the long of a noisy

signal

Suppose that the true productivity of a specified group of workers is difficult for firms to

discern, perhaps because of cultural differences

Fortin – Econ 561 Lecture 4A

Example 1:

Assume that when workers apply for jobs, the employer sees the race of the applicant X ={A, B} and

some error-ridden signal 𝜂 ̃ of productivity.

Assume that employers have learned from experience that the actual productivity of each group,

𝜂𝑋 ∼ 𝑁(𝜂𝑋̅̅ ̅, 𝜎𝑋2) , so that for individual i , they assume that

𝜂𝑖 = �̅�𝑋 + 𝜀𝑖

When a worker applies for a job, the employer observes the error-ridden productivity signal of the

form: 𝜂�̃� = 𝜂𝑖 + ί𝑖 where ί ∼ 𝑁(0, 𝜎ί2) with 𝜎ί

2 > 0

And the signal is unbiased: 𝜂�̃� = �̅�𝑋 + 𝜀𝑖 + ί𝑖 with 𝐸(𝜂�̃�|𝜂𝑖) = 𝜂𝑖.

What is the expectation of productivity 𝜂 given the observed signal 𝜂 and group membership X?

This is simply the regression equation

𝐸(�̃�|𝜂, 𝑋) = �̅�𝑋(1 − 𝛾) + �̃�𝛾 = �̅�𝑋 + (�̃� − �̅�𝑋)𝛾

where 𝛾𝑋 =𝜎𝜂

2

𝜎𝜄𝑋2 +𝜎𝜂

2 is the coefficient of the bivariate regression of𝜂 on �̃�.

Fortin – Econ 561 Lecture 4A

For whichever group has lower 𝜎𝜄𝑋2 , 𝜂�̃� will be more informative; employers will put less weight on

the mean for this group and more weight on the signal. See Figures 1a and 1b of Cain and Aigner.

The difference in information quality will have three main implications:

i) to the extent that productivity depends on the quality of the match between the skills of the

worker and the requirements of the job, the expected productivity will be lower for groups when

the firm is more uncertain

ii) this leads to differences across groups in the return to job matching

iii) the wages of group 𝐵 members may be less responsive to performance because firms have

difficulty “seeing” their productivity. This would weaken the incentive of group 𝐵 members to

invest in skills

The feedback effects of this form of statistical discrimination implies productivity differences and

there is no longer “economic discrimination”

Fortin – Econ 561 Lecture 4A

c. Other Models :

i. Efficiency wage models

These models are based on segmented labour markets and on the idea that while group 𝐴 and group 𝐵

are equal productive, there are differences in other productive characteristics such as effort, quit rate,

mobility or manageability.

In these models, worker’s productivity is increased by increases in pay and it is assumed that the

detection of shirkers in more difficult in one of the two sectors, that is, there is imperfect information

about the productivity of workers.

o Two occupations are usually needed: one with high supervision and low wage premiums and a

second with low supervision and high premiums.

o Men as outside workers and women as clerical workers are classic examples of instances where

these models could apply.

Fortin – Econ 561 Lecture 4A

ii.Monopsony in the labour market

A classic case of workers’ exploitation in neoclassical economics arises under conditions of

monopsony.

Workers are captive in a market where there is only one employer or where a group of employers

collude to act as one buyer

Assuming that the monopsonist cannot differentiate the reservation wage of each workers (unlike the

discriminating monopsonist) but can differentiate the reservation wages of broad groups of

homogeneous workers.

In such circumstances, the monopsonist only has to pay the same wage within groups: different wages

can persist between groups.

Consider the case where groups 𝐴 and 𝐵 workers are equally productive, but where group 𝐵 workers

have lower reservation wages, which may in turn, reflects poor employment opportunities elsewhere or

low subjective evaluation of their own labour market worth.

Source: Benjamin, Gunderson and Riddell (1998)

Fortin – Econ 561 Lecture 4A

Then as illustrated in the next figure, group 𝐵 labour supply curve is lower than group’s 𝐴, and each

have their own marginal cost curve which lies above each supply schedule. The total marginal cost

curve TMC is obtained by horizontally summing the 𝐴 and 𝐵 marginal cost curves. The total amount of

labour demanded TN is determined by the intersection of the TMC and the VMP at (*, MCN T ).

The number of workers of each group demanded will be taken from the group specific inverse

marginal cost curves evaluated at *MC , but the wage paid will be determined by the group specific

supply curves.

The wage differential between the two groups emerges as a result of their different reservation wages

(or labour supply elasticities). This in turn can be due to the extent that women are more tied to their

local labour market and their mobility is restricted because of household pressures.

While the empirical evidence on gender differences in wage elasticities is unclear, there are some

indications of differences in reservation wages.

Fortin – Econ 561 Lecture 4A

iii.Rent-seeking Models

Extensions of the monopsony model argue that one group in the economy can band together to

improve their well-being at the expense of the rest of society.

Akerlof (1980) social norms’ model argue that in small markets in which every participant is a

potential trader, a social custom regarding hiring various groups can be stable.

A non-discriminating employer will lose profits because the discriminating majority will boycott his

business. If the markets are small, the loss of a few traders will be costly in foregone profits. This

could apply in small communities where people can monitor each other’s behavior.

Rent-seeking models may apply more to racial or ethnic discrimination than to gender discrimination

because it is easier to conceive of these groups as being separable in society.

Fortin – Econ 561 Lecture 4A

iv. Supply-Side Theories,Crowding

The crowding hypothesis formalized by Bergmann (1971) implies that when group 𝐵 members are

segregated into only a few occupations.

This creates an excess supply in those occupations which reduces their wages.

Fortin – Econ 561 Lecture 4A

Basic readings:

Cain, Glen. “The Economic Analysis of Labor Market Discrimination: a Survey,” in Ashenfelter, O.C. and R.

Layard, editors, Handbook of Labor Economics, North-Holland, vol 1, 1986, pp.709-730

Altonji, J. and R. Blank “Race and Gender in the Labor Market” Chapter 48 in Ashenfelter and Card Handbook

of Labor Economics, vol 3C (Elsevier, North Holland, Amsterdam 1999) pp. 3143-3259

O’Neill, J. and D. O’Neill, “What Do Wage Differentials Tell Us about Labor Market Discrimination?” NBER

Working Paper 11240 (April 2005).