Performance Pay and the Autocovariance Structure of Earnings and Hours

Abstract

Using data from the Panel Study of Income Dynamics, we study how the aucovariance structure of wages and earnings differs under different contractual arrangements. We divide jobs on the basis of whether they pay for performance, and whether they are covered by collective bargaining agreements. While cross-sectional wage inequality is larger in performance-pay than non-performance-pay jobs, precisely the opposite happens in the case of annual earnings. This suggests that hours of work respond more to demand shocks when wages are inflexible (in non-performance-pay jobs) than when they are flexible because of performance-pay schemes. This result only holds, however, for purely cross-sectional measures of inequality. Since the variation in hours is mostly transitory, from a long-run perspective inequality remains larger in performance-pay than non-performance-pay jobs.