Contracts, Norms, and Power II

Week 3 · September 14, 2026

How do incomplete contracts create rents, authority, and power inside economic relationships?

Opening Hook

Two workers have the same job title and the same formal pay scale. One has a rare skill, a strong outside offer, and a manager who depends on her judgment. The other is new, easily replaced, and unsure whether a complaint would be heard. On paper, both are employees. In the workplace, their power is not the same.

Incomplete contracts leave room for discretion. Discretion raises the question of who can make credible threats, who has alternatives, and who can shape what happens when the contract is silent.

Here is the question this session is about: how does the incompleteness of contracts turn employment into a relationship of both cooperation and power?

Use a simple fallback-options diagram: worker’s next-best job, firm’s next-best replacement, and the surplus from staying matched.

Job Matches and Personnel Economics

Personnel economics asks how firms hire, assign, motivate, promote, and retain workers. Lazear and Shaw emphasize that workers and jobs are not interchangeable widgets. Match quality matters, and firms design practices to discover and use information about people.

That matters for power because a good match creates surplus. If both the worker and firm gain from staying together, they then face a distributional question: who captures the surplus, and what institutions shape that division?

A job match is valuable when the worker and the organization produce more together than either could obtain through the next-best alternative.

How might a firm learn that a worker is a particularly good match? Which of those signals are easy to verify, and which require judgment?

Power in Economic Interactions

Bowles and Gintis argue that power can exist inside competitive markets when contracts are incomplete. If one party can impose costs or confer benefits after an exchange begins, then the relationship has a political dimension.

This is especially important in labor markets. Employers may direct work, monitor behavior, and threaten dismissal. Workers may withhold effort, quit, organize, or use voice. Power is not outside economics; it is part of how many economic relationships operate.

Power appears when one party can affect another’s choices because contracts are incomplete and alternatives are unequal.

Why can power exist even in a competitive labor market?

  1. Because competitive markets never exist.
  2. Because incomplete contracts and unequal fallback options can give one party leverage after exchange begins.
  3. Because wages are never written down.
  4. Because power only exists when the law says it does.

Review Cards

Connections

Builds on: Session 2, which showed that relationships often govern what contracts cannot.

Sets up: Session 4, where we connect rents and power to unemployment, exit, and voice.

Reading Guide

Required

Bowles and Halliday. Microeconomics, Chapter 10 sections 10.8-10.15. Canvas/library.

What to look for: How incomplete contracts become models of authority, conflict, and cooperation.

Lazear and Shaw. Reading on personnel economics and job matches. Canvas/library.

What to look for: Why firms need economic tools for hiring, assignment, incentives, and retention.

Bowles and Gintis. “Power.” Canvas/library.

What to look for: The definition of power and why contract incompleteness makes power economically relevant.