Unjustifiable dismissal - the economics of an unjust employment tax: The New Zealand Employment Contracts Act

The fallacy of unequal bargaining power

Perhaps the hoariest myth of all is that unions are necessary because workers have an inherent bargaining power disadvantage relative to employers. Still today the Labour Party and the unions and their sympathisers argue that compulsory collective bargaining with unions must be restored because of this alleged disadvantage. For example, in a paper calling for the restitution of mandatory good faith bargaining in New Zealand, Lorraine Skiffington says that the basic philosophical flaw of the ECA is that it fails “to acknowledge the inherent disparity of bargaining power between employer and employee”.

The durability of the bargaining power myth can only be explained by its superficial plausibility. An individual worker does seem small relative to a large manufacturing firm. He just must have a bargaining power disadvantage. This is all the argument ever given in support of the myth. But the argument is anon sequitur. Let’s try it in another context. When an individual shopper goes into a New World store to purchase bread, he must have a bargaining power disadvantage because New World is so much bigger and more influential than he is. Here the fallacy is laid bare. The bread shopper is not at the mercy of New World because of competition. It is the same in labour markets.

In any market, whether for labour, cars or bread, sellers compete with other sellers, and buyers compete with other buyers. Sellers do not compete with buyers. They bargain with each other over the actual terms of exchange, but every voluntary exchange yields gains to both the buyer and the seller. Voluntary exchange is a form of Cupertino, not competition. The subject of bargaining is who gets what portion of the total gains such Cupertino makes possible.

When buyers and sellers come together to bargain, their bargaining power depends on their alternatives. For example, with a given number of workers (sellers) seeking work of a particular type, any one worker has more bargaining power with any one employer when there are many employers (buyers) competing with each other to hire these workers than he would have if there were only one employer seeking to do so. Similarly, with a given number of competitive employers (buyers), any one employer has more bargaining power with any one worker when there are many workers (sellers) seeking such employment than he would have if only one worker were doing so. Workers (sellers) hate competition from other workers (sellers), but they love competition among employers (buyers). Similarly employers (buyers) hate competition from other employers (buyers), but they love competition among workers (sellers).

An employer will have a perception of an upper limit on what it is worthwhile to pay a worker for a given increment of his labour services. That “demand price” is the worker’s net marginal revenue (see pages 15-17) to that employer. A worker will have a lower limit on what he will accept in payment for supplying an increment of his labour to an employer. That “supply price,” or “reservation wage,” depends on the worker’s alternatives and on his subjective evaluation of the work to be done. The actual wage agreed to in the hiring contract depends on the extent of the two kinds of competition – among employers and among workers. For a given amount of competition among employers, the wage will be higher with weak competition among workers than it will be with strong competition among workers. (That is why unions want to eliminate competition among workers.) For a given amount of competition among workers, the wage will be higher with strong competition among employers than it will be with weak competition among employers.

At some times particular workers will have a bargaining power advantage relative to their employers, and at other times particular employers will have a bargaining power advantage relative to their employees. So long as an employer is not responsible for a worker’s poor employment alternatives, he does not exploit him by taking advantage of the worker’s weak bargaining power. Similarly, so long as a worker is not responsible for the lack of workers competing for a job, he does not exploit an employer by taking advantage of his weak bargaining power.

Exploitation is a much abused concept. It does not include making voluntary exchange offers to someone based on perceptions regarding that person’s bargaining power. We don’t say that a buyer of a car exploits the seller of a car by offering to pay a low price because the seller happens to have an excess supply of cars on his lot. The only meaningful definition of exploitation is the imposition by one person of involuntary exchange on another person. The criteria for voluntary exchange do not require that all parties to the exchange like the offers they get. They merely require that all parties must be free to accept or reject those offers.

Now, there are few, if any, examples in the US of successful collusion among employers to deny workers alternative employment opportunities (deny them their voluntary exchange rights). On the other hand, thesine qua nonof unions in the twentieth century is to try to shut-out non-union workers from employment opportunities. In other words, unions are in the business of trying to exploit non-union workers. As Morgan Reynolds points out, real wages and worker-initiated job switching in the US were both steadily increasing throughout the nineteenth century before there was any significant unionism. Moreover, throughout the nineteenth century large firms (alleged to have strong bargaining power) paid higher wages than small firms (alleged to have less bargaining power).

However, it is easy to understand why, in litigation, judges are prone to subscribe to the unequal bargaining power myth. Every case involves a particular employment relationship. There is an individual worker pitted against his employer. The employer is almost always wealthier than the employee. The broader perspective, based on an appreciation of how a market system works, is rarely an issue in such cases. Neither plaintiffs nor defendants frame their arguments in market process terms.

This policy bulletin is an extract from FMF monograph by Charles W Baird and may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author’s and are not necessarily shared by the members of the Foundation.


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