No abstract

It is sometimes suggested that compensation varies across individuals much more dramatically than would be expected by looking at variations in their marginal products. This paper argues that a compensation scheme based on an individual's relative position within the firm rather than his absolute level of output will, under certain circumstances, be the preferred and natural outcome of a competitive economy. Differences in the level of output between individuals may be quite small, yet optimal "prizes" are selected in a way that induces workers to allocate their effort and investment activities efficiently.

No abstract

It is sometimes suggested that compensation varies across individuals much more dramatically than would be expected by looking at variations in their marginal products. This paper argues that a compensation scheme based on an individual's relative position within the firm rather than his absolute level of output will, under certain circumstances, be the preferred and natural outcome of a competitive economy. Differences in the level of output between individuals may be quite small, yet optimal "prizes" are selected in a way that induces workers to allocate their effort and investment activities efficiently.

A structural model of the demand for college attendance is derived as a selection problem in the theory of comparative advantage, in which individuals are endowed with different kinds of talents. Some talents and abilities are more valuable in the types of work associated with college education and others are more valuable for work associated with high school education. For example, mechanical abilities are less important for lawyers than for plumbers, whereas verbal abilities are much more valuable for lawyers. The market tends to sort people into work activities for which they have a comparative advantage, as indexed by expected earnings in each activity. The structural model also allows for the influence of parental background in the selection process.Estimates are based on NBER-Thorndike data and support the theory.There is marked heterogeneity in the population and expected financial gains from college attendance are distributed with substantial variance.Nevertheless, those with greater expected gains have a much larger probability of attending college. The elasticity of demand for college attendance with respect to the permanent college-high school earnings differential is 2.0. Parental background factors also influence demand.The data support the comparative advantage theory: Those who did not attend college would have earned less as college graduates than those who actually chose to attend. More surprisingly, those who attended college would have earned less as high school graduates than did those who actually chose high school. There is no "ability bias" in these data.