Wage Trap Model: Producer Behavior in Economies with Heterogeneous Labor Force
CERGE-EI Working Paper Series No. 55
Posted: 25 Feb 2010
Date Written: April 1, 1994
Abstract
The main goal of this paper is to help determine why the communist (and partly even transition) economies are substantially inefficient in comparison with their market counterparts. The reasons will be analyzed with the help of the profit maximization model (based on the efficiency wage theory) leading to the existence of multiple profit optima. The inefficiency of planned and transition economies will then be considered mainly as the consequence of the impossibility to reach the highest profit optimum (this situation will be referred to as the wage trap, because the production suboptimality was due to the lack of freedom to set the optimal wage level). The results of the analysis will also be used to explain the huge discontinuous shifts in the profitability or production of certain firms in transition economies as well as of some possible initial advantages of foreign firms acting in transition economies.
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