The Theory of Contracts and Labor Practices in Japan and the United States

Labor management practices in Japan are quite different from those in the United States. Based on recent developments in contract theory, we develop a conceptual framework to understand why the differences have been maintained for a long period time. Our basic message is that the American and Japanese systems are two different equilibria. The distinguishing feature is the extent to which exit is used as a method of contract enforcement. In the U.S., there is a greater tendency for exit because active markets exist for senior workers. In contrast, there is virtually no market for mid career workers in Japan.