Referral Hiring and Wage Formation in a Market with Adverse Selection
33 Pages Posted: 6 May 2019 Last revised: 9 Aug 2019
Date Written: May 17, 2019
We examine theoretically and experimentally if referral hiring alleviates adverse selection by answering two key questions. First, to hire high-productivity employees with social ties, are firms willing to offer high wages even if productivity of employees is private information? Second, does hiring through referrals alleviate adverse selection relative to when social ties do not exist? We find that the existence of social ties indeed elevates wages and mitigates adverse selection. However, we also observe that hiring decisions fall short of the (second-best) efficient outcome. We identify risk aversion and the hiring dynamics as a reason for this outcome.
Keywords: Adverse selection, employee referrals, wage formation, social ties
JEL Classification: C92, D82, D85, E20
Suggested Citation: Suggested Citation