Labor Market Efficiency – Definition

Cite this article as:"Labor Market Efficiency – Definition," in The Business Professor, updated March 20, 2019, last accessed October 27, 2020,


Labor Market Efficiency – Definition

The word efficient is used for those labor markets which match workmen with the employment according to their skill-set. As a result, the productivity of the workforce boosts up, making them more efficient. On the same scheme, the labor market motivates the employee to give more incentives and rights to the labor.

A Little More on What is Labor Market Efficiency

Efficient Human Resources are not less than capital for any sector of the economy. If this capital is allocated properly with respect to the natural and professional abilities of employees, there is definitely more outcome. A few labor markets also move the employees from the sectors of less outcome to the area of more outcome. Thus, they are flexible because of their objectives. It assists the economy in reacting to external effects. On the contrary, some economies formulate such type of protection policies for the employees that minimize this efficiency of the labor market.

The labor markets that are flexible tend to efficiently reallocate the resources as per the emerging requirements. With the gradual improvement of technology, the companies which are not able to adopt the technology changes will have to minimize the number of employees. If the cost of dismissing employees is so high because of local legislation, the traders will want to invest more in the sectors where the technology move is in a slow process. So, the countries of the flexible market will be able to adopt the technological moves in a better way. This is because they can utilize the advanced resources in other areas and there will be no cost of dismissal.

The employees should avail themselves of the unemployment insurance. They will better be able to protect themselves from this reallocation in the flexible markets. They are less tensed. They develop more patience when they find employment opportunities that are in accord with their expertise. Hence, they become more productive. They can search for job offers with more wages. It enables them to perform effectively. When the employers get quality labor, it encourages them. It shows that the extent of no job is higher. But it also makes sure that there will be quality employment and hence, increasing the total efficiencies.

As per research, active labor market policies facilitate the workers finding the right jobs and hence reduce long-term employment.

According to recent research, the active market plan helps the employees in getting good jobs and this way, permanent employment reduces

The efficient LMs (Labor Markets) are able to boost productivity up in another way, too. That is to retain and utilize the talent at its complete potential. This is possible m, if the employers improve the efforts of the employees, promote training and boost skills up. PLPP (Performance Linked Payment Policy) is very tactful in order to increase the outcome.

References for Labor Market Efficiency

Academic Research on Labor Market Efficiency

  • Age discrimination laws and labor market efficiency, Neumark, D., & Stock, W. A. (1999). Journal of Political Economy, 107(5), 1081-1125. Lazear’s model of LTIV (Long Term Incentive Contracts), the involuntary dismissals on the basis of age reduce efficiency. Such laws of age discrimination may act as pre-committed tools for these agreements. They don’t prevent the firms from presenting powerful financial incentives to get retirement at particular ages. These laws may go in favour of Lazear’s Contract, thus, raising efficiency level.
  • Health Insurance Provision and Labor Market Efficiency in the United States, Holtz-Eakin, D. (1993). (No. w4388). National Bureau of Economic Research. In the US, health insurance claims an outstanding place on the agenda. This state of affairs leads to fluctuating costs of healthcare and improper distribution of medical assistance. The health insurance that the employer provides has ceased persons for employment opportunities, thus, intervening in the matching of employees and the employers effectively. Contrary to the US, Germany ensures health insurance of all citizens virtually. It is portable but the cost can change if the person moves from one job to another. Empirical assessment of these factors has been discussed in this paper.
  • Pension portability and labor market efficiency: A survey of the literature, Dorsey, S. (1995). ILR Review, 48(2), 276-292. This study analyses the impacts of policies of the Labor Market to increase the portability of pension. Minimizing the cost of change in employment will allocate employees more efficiently. The incentives of non-portable pensions can increase efficiency by preventing quits. It is when the benefits of employment specific productivity are there. Several indirect proofs relevant to wages and pension and impact of pensions on redundancy has a consistency with the gains of productivity related to pension.
  • How bad is unemployment in Tunisia? Assessing labor market efficiency in a developing country, Rama, M. (1998). The World Bank Research Observer, 13(1), 59-77. The rate of unemployment in Tunisia has been the world’s highest record for the last 2 decades. This rate depicts measurement issues inefficiently as compared to Labor Market. There are 4 reasons behind it. 2 are related to the criteria which are used for measuring the unemployment in Tunisia and the ways they have varied with the passage of time while 2 use data on the no. of active employment seekers and vacant seats reported to the agency of official employment. As a result, the unemployment has dropped steadily and is still a problem for just the 1st time employment seekers.
  • Ramsey meets Hosios: the optimal capital tax and labor market efficiency, Arseneau, D. M., & Chugh, S. K. (2006). For optimal financial policy, heterogeneity in employed and unemployed persons plays a vital role. This research focuses on these 2 groups of people to determine the optimal equity and taxes on the income of labor in a friction matching model in the ELM (Efficient Labor Market). Generally, the tax on optimal equity is not zero. The reason is that it indirectly lessens the externality with the margin of huge labor. Thus, the findings are that these 2 statistically related characteristics of the labor market can affect significantly on the tax of optimal equity.
  • Labor market efficiency, wages and employment when search frictions interact with intrafirm bargaining, Cahuc, P., & Wasmer, E. (2001). IZA Institute of Labor Economics. A novice reader will confuse by the obvious contradiction in 2 influential theories. The SSM Theory (Standard Search Matching) with the bargaining of wage, coat of hiring and constant labor returns, the bargaining ability of workers permits them to get rents and increase the underemployment or over employment. While in SZT Theory (Stole & Zwiebels), intra-industry bargaining without any hiring cost and diminishing labor returns, the bargaining ability of workers doesn’t permit them to get rent and increase the over-employment forever. The theories have been reconciled with two outcomes; robust and non-robust.
  • Unemployment flows, welfare and labor market efficiency in Sweden and the United States, Barrett, N. S., & Södersten, B. (1975). The Swedish Journal of Economics, 289-302. Though the unemployment rate is very low in Sweden as compared to the United States, it is not necessary that the Labor Markets in Sweden are more efficient and match the employees with the available employment. Lower the rate of unemployment, higher the well being of workers. Break this rate into the parts (turnover & time period), in the United States, the higher rates of unemployment manifest a turnover rate three times more than in Sweden. Swedish workers face an average time period of unemployment 1 and ½ times longer like of American employees. Sweden faces less unemployment as compared to Americans, but when they have no job, they take more time in finding new employment.
  • Information transparency, fairness and labor market efficiency, Işgın, E., & Sopher, B. (2015). Journal of Behavioral and Experimental Economics, 58, 33-39. This research explains the role of data transparency on efficiency, justice and welfare in long term job relationship. When a firm shares data of its productivity and surplus, wages depict more potentials for employees. In return, they perform better to acknowledge the fairness on the part of firms. So, transparency is a powerful technique to boost the performance and well being. It strengthens the relationship between the employees and the firm. Likewise, profits increase.

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