The Theory of Trade Unions: A Brief Introduction

1. The Theory of Trade Unions: A Brief Introduction

2. Background • suppose labour markets are competitive i.e. each employer thinks they can hire as many workers as they want at the going market wage, B • the wage paid will be equal to B - there is no point in paying a higher wage and a lower wage results in no workers being hired. • the firm will choose the level of employment to maximize profits which leads to MRPL=B:

3. In a picture…

4. What happens to wages/employment if there is a union? • need to make some assumptions about: • the preferences of the union • the process of bargaining between employer and union.

5. The preferences of unions • large literature debating what the objective function of a union is likely to be. • But good reason to think unions like: • higher wages (unions do set out to raise wages for their members) • higher employment (they normally fight reductions in employment). • A simple way of capturing these ideas is to assume that the utility function has the form:

6. So indifference curves look like..

7. The Process of Bargaining • Two main issues: • the subject of bargaining • whose preferences, employer or union, get most weight in determining the outcome. • On the subject of bargaining, there are two main models: • the labour demand curve (or right-to-manage) model • unions and employer negotiate the wage but employment is determined unilaterally by the employer. • the efficient bargain model • unions and employer negotiate both the wage and employment.

8. The Labour Demand Curve Model • Given wage, employment will be where MRPL=w • But what will be the wage? • Consider extreme case where union has all the bargaining power • Will choose point on labour demand curve that gives highest utility

9. Graphically…

10. What determines how high this wage will be? • One can show that the wage will be lower: • the more sensitive is labour demand to the wage (the higher the wage elasticity of labour demand) – a high elasticity makes the trade-off between wages and employment less attractive. • the more the union cares about employment relative to the wage.

11. Between the extremes.. • What happens if we have some distribution of bargaining power between union and employer between the two extremes we have discussed? • It should not be hard to see that we will have some outcome on the labour demand curve between the two extremes and that the wage will be lower: • the more bargaining power the employer has

12. In the labour demand curve model.. • Unions raise wages • Unions reduce employment • Unions reduce profits • In a model with capital they would also reduce investment • But perhaps this is not the final word

13. The Efficient Bargain Model • The labor demand curve model is based on a ‘realistic’ set of assumptions. • The criticism is that the outcome has unexploited gains from trade. • To see this consider drawing iso-profit curves on Figures. The have an inverted u-shape and, more importantly, they are horizontal at all points on the labour demand curve.

14. Implication • at the monopoly union outcome, the firm iso-profit curves and union indifference curves are not tangential • both parties could be made better-off by swapping a reduction in the wage for some increase in employment away from the labor demand curve. • The efficient bargain model makes both wages and employment the subject of bargaining • leads to an outcome in which all gains from trade are exploited and union indifference curves and firm iso-profit curves are tangential. • there are many such points differing in the distribution of surplus between employer and union – the set of these points is called the contract curve.

15. The Contract Curve • Can show that contract curve has the form • If γ=0 then same as labour demand curve • If 1>γ>0 then downward-sloping • If γ=1, then vertical • If γ>1, upward-sloping • Unions raise wages but may also raise employment (depending on preferences)

16. Empirical Evidence: Wages • very large literature on the effect of unions on wages (the union wage mark-up). • Typically this includes union status in an earnings function together with other factors and interprets the coefficient on the union variable as the causal effect of union status on wages. • Little experimental or quasi-experimental evidence but people accept this literature as it gives ‘sensible’ answers – a mark-up of 15+% in the US, 10% in the UK (though zero in recent years).

17. Empirical Evidence: Employment • The literature on the impact of unions on employment is tiny. • In part this is because the equivalent of the above wage regression – regress employment on union status leads to a strong positive effect, something people have been very reluctant to believe. • Perhaps for good reason, as unions may be more likely to succeed in organizing workers in large firms.

18. diNardo-Lee • Contribution needs to be set against weaknesses of other literature • They exploit the fact that unions in the US have to win a representation election to be allowed to negotiate. • This leads to a RDD design in which one can compare subsequent outcomes in firms where the union just won with the outcome in firms where the union just lost. • There is a good discussion in the paper of what one can hope to estimate using this – the ‘impact of unionization’ is too simple. They summarize what one might expect in:

20. Conclusion • union impact on the ‘bottom line’ is very small on: • business survival • Employment • Output • Productivity • wages • i.e. unions seem to do very little. A representative type of empirical finding is:

21. The Effect on Employment

22. A puzzle • Even the effect on wages is very small compared to previous estimates. • How can we interpret these results and reconcile them with other findings: • studies ‘young’ unions who have less impact – but wage effect on cross-section is similar to other studies. • can only identify effect at margin but not much evidence of other effects. • Its all a bit troubling – this study has the best quality data but conclusions that are at odds with • what many people think • the fact that employers spend large sums of money trying to avoid unions.

23. Conclusion • Hard to get good research design to study the effect of unions • Best study we has fails to find any effects at all • But reluctant perhaps to believe that • Research does not always give us clear answers