Question

Efficiency wages are offered when monitoring workers' efforts is difficult or costly.

a.) What efficiencies are created by the efficiency wage? explain and show graphically.

b.) explain who benefits from the provision of an efficiency wage.

c.) if there are advantages associated with an efficiency wage, why is an efficiency wage not paid by all firms?

Answer 1

a)  

Efficiency wage theory says that increase in wage rate would cause rise in productivity of worker. when wage rate is increased, it lead to increase in marginal productivity of worker. Following is graph:

In above diagram, increase wage rate lead to significant rise in MRP of worker. it increases from MRP1 to MRP2 thereby signifying rise in marginal productivity of worker.

b)

Both employees and employers are benefited from efficiency wage. Employees are benefited through increased salary. While employers are able recover costs through high retention rate and rise in marginal productivity.

c)

Efficiency wage is not single factor that affect marginal productivity of worker. Working condition and management also influence marginal productivity of workers. Hence, negative factor can decrease productivity despite increase in wage. Hence, all firms does not pay efficiency wage.