August 2003

IZA DP No. 840: Equilibrium Unemployment Under Negotiated Profit Sharing

published in: Journal of Economics, 87(2), 2006, 159-180

We study employment, employee effort, wages and profit sharing when firms face stochastic revenue shocks and when base wages and profit shares are determined through negotiations. The negotiated profit share depends positively on the relative bargaining power of the trade union and it has effort-enhancing and wage-moderating effects. We show that higher profit sharing reduces equilibrium unemployment under circumstances with sufficiently ‘rigid’ labour market institutions, i.e. sufficiently high benefit-replacement ratios and relative bargaining powers of trade unions. Conversely, profit sharing seems to be destructive from the point of view of employment when the labour market ‘rigidities’ are sufficiently small.