The theory of efficiency wages is one of the most enduring ideas in labour economics, bridging the gap between microeconomic models of firm behaviour and macroeconomic phenomena such as unemployment and wage rigidity. Its central proposition is deceptively simple: firms may rationally choose to pay wages above the market-clearing level because higher pay can enhance productivity, reduce turnover, attract better workers, or deter shirking. Yet this simple insight has profound implications for how economists think about labour markets, unemployment, and the role of policy.
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