Choosing Among Competing Theories of The Wage Curve

This paper examines the role of regional unemployment in wage determination. Recent empirical studies have found a negative relationship between local unemployment and the level of wages. The resulting downward sloping curve in the wage-unemployment space has become known as “the wage curve.” While the existence of the wage curve has been well established, little is known about what gives rise to it. Two noncompetitive theories have become the most widely accepted. One is based on a bargaining model, while the other is based on an efficiency wage model. This study provides empirical evidence to help choose among competing theories. Data from the National Longitudinal Survey of Youth (NLSY) are used to estimate wage curves for three different types of workers: those whose wages are set by collective bargaining, those who receive performance-based pay, and those who are self-employed. It is argued that, 1) workers whose wages are set by collective bargaining should have steeper wage curves under the bargaining theory, but not under the efficiency wage theory 2) workers who receive performance based pay should have flatter wage curves under the efficiency wage theory, but not under the bargaining theory, and 3) there should be no wage curve for the self-employed under either theory. The results suggest that neither noncompetitive theory provides a very convincing rationale for the wage curve. It is concluded that competitive theories should be reexamined.