Labor market dynamics in India's software industry

Abstract

The neoclassical economics treats labor markets as spot markets: labor is employed in accordance with marginal productivity and labor and capital are perfectly substitutable under the black box view of the firm. However, labor markets are subject to friction of transaction costs of contracts due to formulation of labor contracts under conditions of imperfect information and uncertainty. For example, employees investing in firm specific skills face threat of hold-up and opportunistic appropriation of their investments by employer as firm specific skills restrict mobility in labor market (Gibbons, 1998; Rey & Tirole, 2001). Vice-versa, employers are also exposed to threat of opportunistic behavior by employees. Acquisition of firm specific skills by employees may result in employer’s entrenchment and hold-up by the employees (Dow, 1987; Williamson, 1975). Employers may confront other problems as well. For example, variance in skills across workers calls for appropriate assessment of skills prior to hiring. Information asymmetry, however, hampers appropriate assessment increasing adverse selection risks. Similarly, problems of moral hazard may arise after hiring due to need for on the job training. Employees may shirk, desist acquisition of firm specific skills, or move to competitor firms after having acquired a certain skill set. Therefore, by taking that all contracts are incomplete, efficiency of labor contracts is determined by minimization of transaction costs both at the ex-ante and ex-post stage.