Social networks in a frictional labour market

This dissertation studies the impact of social networks on social welfare and wage inequality in a labour market with search and matching frictions. Social contacts are considered in the sense of information transmission about vacancies from employed to unemployed workers (social capital). The main chapters of this thesis are based on three independent articles. Chapters 2 and 3 are joint works with J.-Prof. Dr. Anna Zaharieva. Chapter 2 is a revised version of the IMW working paper No. 491 with the same title. This paper develops a search model with heterogeneous workers and social networks. High ability workers are more productive and have a larger number of professional contacts. Firms can choose between a high cost vacancy in the regular market and a low cost job opening in the referral market. The model predicts that a larger number of social contacts is associated with a larger wage gap between high and low ability workers and a larger difference in the equilibrium unemployment rates. The net welfare gain of referrals is estimated at 1.2%. Next we demonstrate that the decentralized equilibrium with referrals is inefficient for any value of the bargaining power. There are two reasons for the inefficiency. First, the private gain from creating a job in the referral market is always below the social gain, so the equilibrium unemployment of high ability workers is above its optimum. Moreover, high ability workers congest the market for low ability workers, so the equilibrium wage inequality is inefficiently large. This is in contrast to the result of Blazquez and Jansen (2008) showing that the distribution of wages is compressed in a search model with heterogeneous workers. Finally, we show that a combination of transfers and subsidies can restore the optimal allocation. If this policy is implemented the net welfare gain of referrals rises up to 1.8%. Chapter 3 is a paper published in the Journal of Economic Behavior and Organization 119 (2015), pp. 211-233 (doi:10.1016/j.jebo.2015.08.012) with the same title. This paper presents a search model with heterogeneous workers, social networks and endogenous search intensity. There are three job search channels available to the unemployed: costly formal applications and two costless informal channels - through family and professional networks. Low productivity workers expect low wages implying low incentives for preparing formal job applications. Hence low productivity workers rely on family referrals as a method of last resort. In contrast, professional referrals are used by firms to hire high productivity employees. Formal hiring is then a most frequent employment channel for workers in the middle range of the productivity distribution. This explains a U-shape referral hiring pattern observed in empirical studies and a strong selection of workers on productivity across the three channels. Moreover, combining family and professional referrals into one informal channel may generate a spurious result of wage premiums (penalties) if high (low) productivity workers are dominating in the empirical data and their productivity is not fully observable to the econometrician. Chapter 4 is the IMW working paper No. 548 with the same title. In this paper, the search model is proposed, in which homogeneous firms are uncertain about the job seekers’ number of friends, who can help them in the job search (social capital). All workers have the same productivity and differ only in the social capital. A firm offers a take-it-or-leave-it wage contract to a worker after checking the worker’s profile and her public number of non-fictitious social contacts in the Social Network System in the Internet. This number serves as a noisy signal of the social capital for firms and cannot be influenced by the worker only for signalling purpose. The model generates a positive relationship between the number of contacts in the Social Network System and the wage offered by firms in the equilibrium. In addition, the presence of firm’s uncertainty with respect to workers’ possibilities to find jobs through social contacts increases overall social welfare.