Referral Hiring and Wage Formation in a Market with Adverse Selection

36 Pages Posted: 6 May 2019 Last revised: 2 Feb 2020

See all articles by Aurelie Dariel

Aurelie Dariel

New York University (NYU) - New York University Abu Dhabi

Arno Riedl

Maastricht University; IZA Institute of Labor Economics; CESifo (Center for Economic Studies and Ifo Institute); Netspar

Simon Siegenthaler

University of Texas at Dallas, Naveen Jindal School of Management

Date Written: January 31, 2020

Abstract

Firms often rely on employee referrals to facilitate the hiring process and circumvent problems of asymmetric information. Important questions regarding how the use of employee referrals affects labor market outcomes arise: Does referral hiring via social links lead to a more efficient allocation of workers to firms, compared to when hiring is possible only on a competitive public market? In order to utilize the social links of their current employees, are firms willing to pay a premium above the competitive wage? We present a model that allows us to derive testable hypotheses and design a laboratory experiment to address these questions. In line with the predictions, we find that, if feasible, firms do hire via employee referrals, which in turn mitigates adverse selection and elevates wages. Importantly, firms anticipate the future value of incumbent high-productivity workers' social links, leading to higher wage offers even when hiring them solely in the competitive market. We also document that market efficiency falls short of the theoretical prediction and identify risk aversion and the dynamic nature of the hiring process as reasons for this inefficiency.

Keywords: Adverse selection, referral hiring, wage formation, social links

JEL Classification: C92, D82, D85, E20

Suggested Citation

Dariel, Aurelie and Riedl, Arno M. and Siegenthaler, Simon, Referral Hiring and Wage Formation in a Market with Adverse Selection (January 31, 2020). Available at SSRN: https://ssrn.com/abstract=3368383 or http://dx.doi.org/10.2139/ssrn.3368383

Aurelie Dariel

New York University (NYU) - New York University Abu Dhabi ( email )

PO Box 129188
Abu Dhabi
United Arab Emirates

Arno M. Riedl (Contact Author)

Maastricht University ( email )

Department of Economics (AE1)
P.O. Box 616
Maastricht, 6200 MD
Netherlands

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Netspar ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Simon Siegenthaler

University of Texas at Dallas, Naveen Jindal School of Management ( email )

P.O. Box 830688
Richardson, TX 75083-0688
United States

HOME PAGE: http://www.simonsiegenthaler.com

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