The Age Discrimination in Employment Act (ADEA) was enacted by Congress in 1968 to "promote employment of older persons based on their ability rather than age; to prohibit arbitrary age discrimination in employment; to help employers and workers find ways of meeting problems arising from the impact of age on employment." Although the intent of the ADEA was to ban age discrimination, influential research by Lazear (1979) pointed out that the law may have had other consequences that benefited currently older workers but impaired efficiency. In Lazear's model, with efficient long-term incentive contracts ("Lazear contracts"), older workers earn more than their marginal product and more than their reservation wage, whereas younger workers earn less than their marginal product. Thus this model can generate rising age-earnings profiles even if age-productivity profiles are flat or declining. But the model also provides insight into the potential effects of age discrimination laws. Specifically, because older workers earn more than their reservation wage, an implication of prohibiting involuntary retirement based on age is that older workers "will enjoy a small once-and-for-all gain at the expense of a much larger and continuing efficiency loss that affects all workers and firms adversely" (Lazear 1979, pp. 1283-84).'
There are other considerations, however, that suggest that legislation barring age discrimination may encourage, rather than discourage, the formation of Lazear contracts. Some empirical research suggests that mandatory retirement was not an important determinant of retirement age. Despite restrictions on involuntary retirement based on age, firms have remained able to offer financial incentives to induce retirement at specific ages. Finally, the ADEA also prohibited age discrimination in layoffs, which may have inhibited firms from opportunistically reneging on long-term implicit contracts with older workers. As such, the ADEA may serve as a "precommitment" mechanism of the type studied by Schelling (1978, 1983). With its prohibition of age-based firings providing a means for workers to enforce Lazear-type contracts, the ADEA may encourage workers to enter into such contracts and hence increase rather than decrease labor market efficiency.
This paper evaluates these two competing views of age discrimination laws by considering the effects of such laws on a proxy for the use of Lazear contracts: the steepness of age-earnings profiles. Our identifying information comes from the many states that passed laws barring age discrimination prior to the federal legislation. Under the assumption that the slopes of productivity profiles are unaffected, if age discrimination laws inhibit the formation of Lazear contracts and thus reduce labor market efficiency, they should lead to flatter earnings profiles. In contrast, if they strengthen the bonds between workers and firms, such laws should increase efficiency by encouraging Lazear contracts and lead to steeper earnings profiles.
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Age Discrimination Laws and Labor Market Efficiency
