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Lecture 5
Unions and the Labour Market

Structure
1. Union Structure and Membership
2. Constraints Unions are facing
3. Collective Bargaining
4. The Effects of Unions
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Union Structure and Membership

• Labour Unions: organisations of workers whose primary objectives
are to improve the pecuniary and non pecuniary conditions of
employment among their members.
• Distinction between industrial union and a crafts union.
• Unions bargain on behalf of their members with employers over
issues such as pay, benefits, conditions of work, overtime,
promotion, layoff etc.
• Bargaining can take place centralised or decentralised.
• Political dimension of unions: often associated to a party or active
in lobbying.
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Union Structure and Membership

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Constraints Unions are facing

• The most important constraint a union is facing when demanding
higher wages is the demand curve.
• It’s position and elasticity are fundamental for the ability of
unions to achieve their objectives.
• The more elastic the demand curve the greater the reduction in
employment induced by a pay rise.
• If a increase in the wage is taking place in a growing industry
(demand curve is shifting to the right), unions might only slow
down the increase in employment.
• If however the industry is declining, wage rises decrease
employment further.
• We should expect unions to be strong in industries with low
elasticity and high growth.
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4-2 Constraints Unions are facing

Demand Growth and Demand Elasticities as Limiting Factors
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Constraints Unions are facing

The Monopoly-Union Model
• Basic monopoly model – union sets wage and employer is
adjusting employment to maximise profits.
• Assumption: Unions favour higher wages and higher
employment of its members, preferences of members can be
aggregated yielding a union utility function with standard
characteristics.
• Suppose under perfect competition the wage rate would be W 0
and employment E0.
• Now the union will pick a point on the demand curve where its
indifference curve is just tangent.
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Constraints Unions are facing

The Monopoly-Union Model
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Constraints Unions are facing

The Efficient-Contracts Model
• Outcome of the previous model is not Pareto-
efficient. One could improve the situation of at least
one party without making the other one worse off.
• To see this, we have to introduce the isoprofit curves
of the firm into our diagram.
• Isoprofit curves describe all wage-employment
combinations reaching the same level of profits.
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Constraints Unions are facing

Firm’s Isoprofit Curves
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Constraints Unions are facing

• Now we combine both graphs – in particular the union’s indifference
curves and the isoprofit curves of the employer.
• It should be noted that the curves going through point b are
intersecting.
• An intersection however gives rise to improvements.
• Why? The marginal willingness of the union to exchange employment
against pay differs from one to another employer.
• Thus, the two could negotiate a different contract where they are at
least as good as with the old one.
• In our case there is a continuum of such contracts – the so-called
contract curve.
• The final settlement on the contract curve depends on the relative
bargaining power of the parties.
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Constraints Unions are facing

Contract Curve
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Constraints Unions are facing

• Contract curve is off the labour demand curve – in
our example to the right of it.
• This implies excess labour at a given wage rate.
• Excess labour does imply that firms are not
minimising costs, thus points on the contract curve
are from a social point of view inefficient.
• If we had a bilateral monopoly, the contract curve
would be vertical
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Collective Bargaining
How Unions try to alter the labour demand curve
• Shifting product demand by asking for import quotas,
favouring tariffs or other protectionist measures.
• Restricting substitution through legislation:
demanding higher minimum wages or limiting
immigration.
• Restricting substitution through bargaining: minimum
staffing requirements, prohibition of subcontracting.
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Collective Bargaining
Bargaining and Strikes
• How are unions able to achieve their objectives? Through
bargaining and the threat of a strike.
• Simple model by Hicks: Management and union bargain over the
increase in the wage rate.
• Employer concession schedule: First days of a strike can be
covered by inventory, the longer the strike the more costly it
becomes for the firm and its willingness to offer a higher wage
increase rises.
• Union resistance curve: similar argument – first high increase
demanded, the longer the strike the lower the wage increase
necessary to satisfy the union because of loss of income for union
members.
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Collective Bargaining
Strikes and Bargaining
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Collective Bargaining
Strikes and Asymmetric Information
• If strikes are costly why do they take place at all? It would be more
efficient to anticipate the outcome and settle without a strike.
• If however both parties are uncertain about the goals and intention
of the other side – asymmetric information is an issue – a strike
could be used as a signal or as way to obtain a signal from the
employer.
• Asymmetric information within the union: union leaders acting as
agents for the members; might lead to tougher and wasteful
negotiations because leaders want to be re-elected.
 The Effects of Unions

Theory of Union Wage Effects

• Define as wthe
U wage paid to union members and
wthe
n wage paid to non-union workers.
• Then the relative wage advantage (R) would be
given in percentage terms by
wU  wn
R
wn
• However, R does represent a direct and an
indirect effect and might over- or understate the
effect on wages created by unions.

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The Effects of Unions

Spillover Effects of Unions on Wages and Employment
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The Effects of Unions

Threat Effects of Unions on Wages and Employment
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The Effects of Unions

• Spillover effect overstates the effect unions have on
their members wages.
• The threat effect understates the effect unions have
on their members wages.
• Instead of moving from the union sector to the non-
union sector, workers could opt to stay unemployed
and wait for a position in the union sector. In the
extreme case workers from the non-union sector
might shift to the union sector.
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The Effects of Unions

Evidence of Union Wage Effects

• Union relative wage advantage is in the range of 10-20%, differs

significantly in other OECD countries (France 3%).

• The presence of unions reduces wage dispersion in earnings and

an increase of less-skilled workers relative to high-skilled ones.

• Evidence ambiguous with respect to spillover and threat effect.

• Indication that unions at least reduce job creation.

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The Effects of Unions

Normative Analyses of Unions

• Potential reductions in social welfare: insider-outsider

theory, efficiency considerations.

• Potential increases in social welfare: collective voice

argument,