Screening the Overconfident : When Competition Erodes Efficiency

In a labor market with moral hazard, adverse selection, and overconfident workers, I compare the equilibrium contracts and efficiency under perfect competition and monopsony. In both market structures, screening workers according to their productivity-type requires the firm(s) to distort the contract offered to less productive workers, and these distortions may offset others that arise due to overconfidence. The overall effect on efficiency depends on the type-distribution of the labor force, the relative degree of overconfidence of the different types of workers, and the market structure itself. I provide sufficient conditions for a monopsonistic market to be more efficient than a perfectly competitive market and show that overconfidence generates worker preferences for policies that may exacerbate market failures