Question

According to efficiency wage theory, higher wages paid by firms DO NOT lead to

1)structural unemployment

2)wages above their equilibrium

3)lower firm profits

4)increased worker productivity

Answer 1

Answer: 3) lower firm profits

The efficiency wage theory states that higher wages paid by firms leads to higher worker productivity, as workers have an incentive to work better and the motivation to work harder.

Also, workers tend to be more productive and achieve their tasks on time as they feel that they have to provide their best when they are paid higher wages because if not they lose more money if they were to be fired for poor performance. Workers also tend to stay loyal, and require lesser supervision when they are paid higher wages. Through this, the company tends to earn higher profit margins as worker productivity is better.

Also due to higher wages, higher skilled workers tend to be employed for the job and thus productivity and efficiency is bound to rise as well, resulting in better production, sales and performance for the firm.

Of all the above said, increasing wages do not necessarily create lower profits for the firm. A firm tends to attract quality workers with higher productivity and better efficiency with higher pay. This sometimes reduces the employment requirements as firms employ lesser number of better workers who can reduce the general number of people required for the task. They also require less supervision, thus reducing costs further. Higher performing workers produce, sell and generally try to earn more thereby making the company earn more and gain a reputation of improved efficiency among it's customers and in the market , resulting in further increase in business frequency.