A study published in the American Economic Review uses a model to explain hiring and turnover at elite firms. Two financial economists, one from the University of Rochester and one from the University of Wisconsin–Madison, say the model applies to law, consulting, fund asset management, auditing and architecture where individual performance is visible and attributable.
The model treats elite firms as intermediaries that hire people and sell services to clients. Clients cannot easily judge a new worker’s ability at the start, while the firm can observe talent more accurately. During “quiet periods” the firm keeps employees who perform adequately and pays standard wages.
As public measures of performance accumulate, the firm’s informational advantage falls and clients update their beliefs. When the information gap is small, the firm faces a choice: raise pay for some, or let some leave and keep others at lower pay. The researchers show that selective turnover can benefit both firms and workers and leads to a stable pattern where the market gradually learns who is top-tier.
Difficult words
- churning — Firing employees to improve company talent.
- reputation — The beliefs or opinions about someone or something.
- compensation — Payment or salary for work done.
- paradox — A situation with contradictory elements.
- navigate — To find a way through a complex situation.
- pressure — A feeling of urgency or stress to act.
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Discussion questions
- How do you think reputation affects an employee's career?
- What are the benefits and drawbacks of churning for firms?
- How would you feel if your salary was lower than peers?
- In what ways can a firm's strategy impact employee morale?
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