Optimal Wage-Tenure Contracts without Search Intensity Commitment

In this paper I explore wage-tenure contracts in a random search framework, where workers search on and off the job for employment opportunities similar to that of Lentz (2010) and Bagger and Lentz (2008). The worker determines the frequency by which employment opportunities arrive through a costly choice of search intensity, which is unobserved by the firm and cannot be directly contracted upon. Firms differ in the marginal productivity by which they employ workers. The model also includes worker human capital heterogeneity governed by a learning by doing process. Wages are set by sequential auction as in Postel-Vinay and Robin (2002). The exercise is closely related to Burdett and Coles (2003, 2010), and to make the problem interesting I follow their assumption of risk averse agents and imperfect capital markets. Optimal wage-tenure contracts are shown to generally be back loaded in order to discourage the worker from generating outside wage pressure on the existing match. The framework allows a decomposition of wage growth into three components: human capital accumulation, search capital accumulation, and backloading. From this point of view, the model is also closely related to Bagger et al. (2013), where wage dynamics are estimated allowing for human capital and search capital accumulation but where wage contracts are assumed to be flat unless renegotiated. ∗I am grateful for useful comments from John Kennan, Guido Menzio, Dale T. Mortensen, Rob Shimer, and Randall Wright. Any mistakes are mine.