On the Job Training
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Weekly
earnings
College grad
Some college
High school grad
High school
drop out
age
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On the previous slide we see information on weekly earnings.
At a certain date a survey was done and folks told their age,
education level and weekly earnings. What we see is
1) More education means higher weekly earnings,
2) As workers age earnings rise, but at a decreasing rate, and
3) Those with more education tend to get higher increases in
earnings – in other words the lines in the graph diverge.
In a previous section we studied the schooling decision and saw
there that schooling can lead to differences in earnings. Here
we study on the job training and how that can contribute to
differences in earnings.
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In the Human Capital model we studied the decision that
individuals make concerning how much education to take. We
saw that from an ECONOMIC POINT OF VIEW, individuals
take more education, and thus enhance their human capital, so
long as the net present value of the education choice is positive.
Here is a quick story to remember the general results of that
story (really a theory). When you graduate from high school
you can go to college and incur costs now in the hope of
attaining higher income than without the college. The additional
income has to be enough to overcome the expense of college for
the individual to actually go to college.
Now we want to study another human capital enhancer – on the
job training.
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On the job training
On the job training comes in two varieties:
1) General training
2) Firm specific training.
General training refers to training that enhances a person’s
productivity in many firms. Firm specific training enhances a
person’s productivity only at the firm that provides the
training.
Examples:
General – learning to use basic Window’s software, perhaps,
Specific – learning to use firm based solution software.
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The training decision
earnings
Training
earnings
profile
B
A
No training
earnings profile
experience
6
On the previous slide we see a horizontal line that represents
the earnings over the working life of a person who does not
take job training. We also see an s type sort of looking
curvular shaped line  that represents the earnings over the
working life of a person who actually takes training.
Why is the training line lower at the beginning? Presumably
the earning is lower during the training period and then after
training the earning increases. You have heard of the
phenomenon of a training period, have you not?
Area A in the graph on the previous screen thus represents
the cost of the training to the worker in the form of lower
earnings during the training period. Area B is then the
enhanced earnings over the rest of the working life.
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If the present value of B > present value of A then the
individual will “accept” the training by taking a job that would
require it.
Otherwise the individual would not take a job that required
training.
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Does everyone take training? Explain using this graph. (this is
NOT an assignment at this time.)
earnings
No training
earnings profile
Training
earnings profile
experience
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We will consider a model where the relationship between a
worker and a firm lasts two periods. The total labor costs to the
firm each period are TC1 and TC2. The contribution the worker
makes each period, the value of the marginal product, is VMP1
and VMP2.
Earlier this term we saw the profit maximizing firm demands
labor up to the point where the wage equals the value of the
marginal product. When we include more costs than just the
wage and we consider more than one time period, then the profit
maximizing firm will want labor up to the point where
TC1 + [TC2/(1+r)] = VMP1 + [VMP2/(1+r)].
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Now, say on the job training (OJT) occurs in the first period and
costs H dollars. Plus in the first period the worker gets paid w1.
No training occurs in the second period and the worker gets paid
w2. So TC1 = w1 + h and TC2 = w2 and our profit maximizing
firms employment decision becomes
w1 + H + [w2/(1+r)] = VMP1 + [VMP2/(1+r)].
General Training
Remember general training is training that can be used at any
firm. If a firm provides training in the first period then the
workers VMP in the second period for that firm and all other
firms is enhanced. Since other firms would try to entice the
worker away from the firm in the second period if the firm did
not pay a wage equal to VMP in that period, we see w2 = VMP2.
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When w2 = VMP2,
w1 + H + [w2/(1+r)] = VMP1 + [VMP2/(1+r)] becomes
w1 + H = VMP1 and we can see
w1 = VMP1 - H.
The wage the worker gets in the first period is less than the
value of the marginal product by the amount of the general
training cost. Firms will offer general training only if the
worker pays for it in the form of a lower wage.
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Specific Training
If a worker leaves a firm where specific training has occurred
the worker’s alternative wage would return to their pretraining
productivity.
What if the firm pays for the training in the first period and
makes w1 = VMP1? The firm would be making an investment
and would hope that with the VMP2 enhanced by the training
it could pay w2 < VMPS and recover its investment. But the
firm might feel queasy about this because maybe the worker
will quit before the second period and the firm will be out the
investment.
What if the worker pays for the training? The worker would
get a lower wage in the first period in the hopes of getting paid
more in the second period. But if the worker is not assured the
firm will keep them in the second period, then they would lose13
out in the second period and have to go work somewhere else
where they would not benefit from their training – and get just
wage wbar. Their investment would not pan out.
With the second period commitment unsure on both sides, it
seems a compromise would be that the worker would be likely
to stay if more than wbar is paid in the second period and the
firm would likely want to keep the worker if they could pay less
than the VMP in the second period.
This suggests w2 would be greater than wbar, but less than
VMP2 – and thus both the worker and the firm pay for the
training. They share the cost and the gain.
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The Mincer Earnings Function
Some guy named Mincer (he was a wordy fellow) did some
statistical work and combined the schooling model and the
OJT concepts to have a function for wage rates in the
following form:
log w = as + bt – ct2 + other variables,
Where w = wage rate, s = years of schooling, t = years of
labor market experience and a, b and c are estimated by a
statistical procedure.
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w
log w
1
0
2
0.30103
3
0.477121
4
0.60206
5
0.69897
log w
1.2
1
0.8
0.6
6
0.778151
7
0.845098
8
0.90309
9
0.954243
10
1
log w
0.4
0.2
0
0
5
10
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Just wanted you to see how at each wage what the
log wage looks like.
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The value a when estimated would tell us how much the log w
would increase when schooling increases by 1 year.
b and c together are an indication of how log w changes when
experience goes up 1 year – and it is a proxy for OJT.
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