Chapter 11
The Economic
Impact of Unions
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page
McGraw-Hill/Irwin
Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.
11-2
1. The Union Wage
Advantage
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11-3
Preliminary Complications
 If unions raise wages for a firm in a
perfectly competitive market, the firm
will not survive due to their higher costs.
 Unions try to organize all of the firms in
an industry to prevent unionized firms
being at a cost disadvantage.
 Simply comparing wages in highly
unionized industries with those in less
unionized industries may be misleading.
 Factors other than unions may explain the
difference – plant size, worker skills, etc.
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11-4
Union Wage Advantage
• If we could compare wage rates Wage rate
in a given labor market, where
all conditions were held constant
except for the presence of the
unions, we could calculate a
Wu
pure measure of the union’s
wage advantage.
Wn
• The pure wage advantage is
(Wu-Wn)/ Wn * 100.
S
• Unions may influence the wage
rates of nonunion workers as
well as the wage rates of their
own workers in the real world.
D
Q2 Q1
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Quantity of
Labor Hours
Spillover and Threat Effects
Wage rate
• The spillover effect
suggests that as a union is
able to raise wage rates
from Wn to Wu,
employment in the union
sector will fall by Q2 - Q1.
• The reemployment of these
workers in the nonunion
Wu
sector, will reduce wages
from Wn to Ws, which
means the measured wage
advantage [(Wu-Ws)/ Ws] Wn
overstates the pure wage
advantage.
• The threat effect is that
nonunion employers raise
wages from say Wn to Wt to
prevent unionization.
• The threat effect causes the
measured wage advantage
[(Wu-Wt)/Wt] to understate
the pure wage advantage.
Wage rate
11-5
Wt
Wn
Du
Q 2 Q1
Union
Ws
Quantity
of Labor
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Dn
Q 3 Q1 Q2
Nonunion
Quantity
of Labor
11-6
Product Market Effect
• An increase in union wages will
raise costs and prices in the
union sector.
• As a result, the demand for
nonunion product and thus
raise the demand for nonunion
labor (D1 to D2).
Wage rate
S
Wp
Wn
• This will tend to raise wages in
the nonunion sector and thus the
measured union wage advantage
will understate the pure wage
advantage.
D2
D1
Q1 Q2
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Quantity of
Labor Hours
11-7
Other Effects on Nonunion
Wages
 Wait unemployment
 Some of the workers who become
unemployed when union increase the
wage rate in the union sector may prefer
to wait for a job in the union sector rather
than take a job in the nonunion sector.
 This reduces the spillover effect and its
resulting overstating of the pure wage
advantage.
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11-8
Other Effects on Nonunion
Wages
 Superior-worker effect
 The higher wages at union firms will
allow them to hire better workers.
 This causes the measured wage advantage
to overstate the pure wage advantage.
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11-9
Union Wage Advantage
• The union wage
advantage was
relatively stable in the
low twenties from the
mid 1980s to the mid
1990s.
• The union wage
advantage has fallen
from 23 in 1994 to 17
percent now.
25
Percent Union Wage Differential
• The union wage
advantage rose in the
late 1970s as union
wages were protected
from inflation with
cost of living
adjustments, but
nonunion wages were
not.
20
15
10
5
0
1983
1987
1991
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1995
1999
2003
11-10
Variations in Union Wage
Advantage
 The union wage advantage is greater for
the following:





Recessions
Construction workers
Black males
Blue-collar workers
Less-educated workers
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11-11
Total Compensation
 Total compensation is the sum of wages and
fringe benefits.
 Union workers have more fringe benefits
than nonunion workers because:
 Union workers have higher wages and want
to “buy” more fringe benefits.
 Union workers are older.
 Unions are able to express worker’s
preferences for more fringe benefits.
 Union workers have greater job tenure and
thus are more likely to collect a pension.
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11-12
Question for Thought
1. How is the “pure” union wage advantage
defined? If in a given labor market the wage rate
would be $8 without a union and $10 with a
union, then what is the pure union wage
advantage? Explain how, and in what direction,
each pf the following might cause the
“measured” wage advantage to vary from the
pure wage advantage: (a) the spillover effect, (b)
the threat effect, (c) the product market effect,
(d) the wait unemployment effect, and (ed) the
superior worker effect.
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11-13
2. Efficiency and
Productivity
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11-14
Negative Effects
 Restrictive work rules
 Unions may impose work rules that
decrease efficiency or productivity.
 Limits on output.
 Time consuming production methods.
 Requiring unnecessary work to be done.
 Requiring unnecessary workers to be hired.
 Restrict the types of work that a worker can
perform.
 These work practices also exist in the
nonunion sector.
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11-15
Negative Effects
 Strikes
 Strikes are relatively rare and account for
<.1% of total estimated total working time.
 Data on working time may overstate the
output loss due to strikes since firms may
build up inventories in anticipation of a
strike.
 Data on working time may understate output
loss due to strikes since the strike may
disrupt production in other industries.
 The effects on non-striking firms are likely to
be greater when services are involved.
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11-16
Strikes
• The number of work
days lost has trended
downward since 1970.
• 94% of the lost work
days in 2000 were the
result of 4 strikes.
Millions of work days lost
60
50
40
30
20
10
0
1960
1968
1976
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1984
1992
2000
2004
11-17
Negative Effects
 Wage advantage and labor misallocation
 The higher wage in the union sector causes
workers to be displaced to the nonunion
sector.
 This causes an efficiency loss because the
loss in output in the union sector is greater
than the gain in the nonunion sector.
 The value of marginal product of the laid off is
greater in the union sector than in the nonunion
sector.
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11-18
Negative Effects
 Wage advantage and labor misallocation
 Qualifications
 Unemployment
 If the workers laid off are not reemployed in the
nonunion sector, the efficiency loss is larger.
 Job search costs
 If there are search costs with finding
reemployment, then efficiency loss will be larger.
 Bilateral monopoly
 If unions are bargaining with a monopsonist, then
the efficiency loss may be smaller.
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11-19
Negative Effects
 Investment behavior and productivity growth
 The misallocation of labor described earlier is a
static or short-run efficiency loss.
 There may also be a dynamic or long-run
efficiency loss.
 If unions are able to extract a large part of the
returns to capital, then firms will be less likely to
invest in capital and reduce productivity growth.
 Empirical evidence
 Unions have a small static efficiency loss on
output
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11-20
Positive Effects
 Investment and technological progress
 The higher union wages may cause firms
invest in capital in order to substitute for
the relatively more expensive labor.
 Unions as a collective voice
 Unions function as collective voice for their
members to resolve disputes, improve
working conditions, etc.
 Workers morale increases and so does
productivity
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11-21
Positive Effects
 Union workers have lower turnover due to
collective voice effect as well as the union
wage advantage.
 Union workers have higher productivity due
to their greater worker experience.
 Union firms are more willing invest in
training.
 Due to seniority layoff, senior union
workers are more willing to provide
informal training to less senior workers.
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11-22
Positive Effects
 Faced with a higher union wages, firms
may have a shock effect on productivity.
 Managers try to increase efficiency in order
to offset effect of higher union wages.
 Empirical evidence
 The empirical evidence regarding the
impact of unions on productivity is mixed.
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11-23
3. Firm Profitability
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11-24
Firm Profitability
 Nearly all studies find that unions reduce
profits.
 If unions reduce profits in monopolistic
industries, then no efficiency loss occurs.
 If unions reduce profits in competitive
industries, then an efficiency loss occurs
since firms will leave the industry.
 Output will be lower and prices higher.
 The empirical evidence is mixed on whether
there is an efficiency loss.
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11-25
4. Distribution
of Earnings
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11-26
Increasing Inequality
 Unions increase income inequality in three
ways:
 Increasing the wages of union workers and
lowering the wages of nonunion workers
through the spillover effect.
 Increasing the wages of skilled blue-collar
workers relative to unskilled blue-collar
workers.
 Increasing the demand for skilled labor
within unionized firms.
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11-27
Decreasing Inequality
 Unions decrease income inequality in three
ways:
 Equalizing wages within firms.
 Unions try to make pay tied to jobs and not
individual workers.
 Unions seek a wage policy of equal absolute
dollar wage increases for workers.
 Equalizing wages across firms.
 Unions seek to standard wage rates among
firms.
 This enables unions to protect their wage
advantage.
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11-28
Decreasing Inequality
 Reducing the white-collar to blue-collar
differential.
 The empirical evidence is that unions reduce
income inequality on net.
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11-29
5. Other Issues: Inflation,
Unemployment, and
Income Shares
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11-30
Other Effects
 Inflation
 Unions are not a cause of inflation like
monetary policy.
 Unions and unemployment
 Unions may reduce downward wage
flexibility and thus increase unemployment.
 Reduce worker turnover and thus
unemployment.
 High union wage rates may increase
unemployment by attracting new entrants.
 The evidence is unions have only a small
effect on unemployment.
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11-31
Other Effects
 Labor’s share
 Unions have not been able to increase the
share of income going to labor rather than
capital.
 The higher union wages come at the expense
of lower wages for nonunion workers.
 Union wage increases may cause firms to
substitute capital for labor.
 Firms may avoid an impact on capital income
through productivity and price increases.
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11-32
Questions for Thought
1. Comment on each of the following statements:
(a) “Unions tie the hands of management and inhibit
efficient decision making.”
(b) “Unions contribute to economic efficiency in that
union wage pressure hastens the weeding out of the
high-cost, least-efficient producers in each industry.”
(c) “Although unions may reduce wage inequality, to
the extent they reduce wage differentials based on
individual merit and effort, the outcome may be
rightly perceived as both inequitable and
inefficient.”
(d) “Unions impair the efficiency of our economy
indirectly by diminishing profits and thereby
reducing investment and economic expansion.”
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11-33
End
Chapter 11
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