Modern Economists on Wage Differentials: Unions, Bargaining, and Dual Markets

Why does a software developer at a large tech company earn a high salary with full benefits, while a gig economy driver in the same city, working just as hard, struggles with low pay and no job security? If you ask a classical economist, they might talk about supply and demand. But is that the whole story? Modern economists would say “not even close.” They argue that wages aren’t just a simple price for labour; they are the outcome of power struggles, institutional rules, and deep structural divisions in the economy. Understanding these modern views is key to seeing why wage gaps persist and what we can actually do about them.

The power of the group: Union models and collective bargaining 🔗

One of the most significant departures from classical theory is the recognition of unions. Instead of individual workers negotiating on their own, collective bargaining allows them to negotiate as a single, powerful group. Modern union models show that this fundamentally changes the wage equation, dramatically increasing the share of revenue that goes to workers.

Imagine a large factory in a small town. That factory is the main buyer of labour, a situation economists call a monopsony. If you’re a single worker, the factory has all the power. They can offer a low wage, and your only choice is to take it or leave it. In this market, wages are pushed *below* what they would be in a competitive market.

Now, what happens when workers form a union? The union essentially becomes a monopoly seller of labour, a single entity that controls the supply. The power dynamic flips. The union can now negotiate for higher wages, better conditions, and benefits, acting as a powerful counterweight to the company’s monopsony power.

Bargaining in different market models 🔗

Economists have specific models to explain this. The “monopoly union model” suggests that the union, knowing the company’s demand for labour, sets a specific wage rate that it wants. The company then has to decide how many workers it can afford to hire at that higher wage. While this might sometimes mean fewer jobs, it ensures the workers who *are* employed get a significantly better deal.

More complex “efficient bargaining models” propose that the union and the company negotiate over *both* wages and employment levels at the same time. The goal is to find a deal that both sides can live with, preventing costly strikes or lockouts. In both cases, the final wage is far higher than what any individual worker could have achieved alone, proving that collective action directly boosts wages.

Are wages really set by the market? The institutional view 🔗

In the 1940s, a group of economists, including thinkers like Clark Kerr and Paul J. McNulty, began to challenge the very idea of a “labour market.” They argued that the market for labour isn’t like the market for corn or oil, where prices move fluidly based on supply and demand. Instead, the labour market is a complex social and political construction, heavily shaped by rules, norms, and institutions.

Kerr argued that collective bargaining, government regulations (like minimum wage laws), and even a company’s internal pay scales make the wage rate an administered rate. This means the wage isn’t an impersonal, “natural” price set by the market; it’s a price actively set and managed through human decisions, negotiations, and policies. Think about it: a company’s salary bands, with defined levels and promotion paths, are a form of administered wage. They create stability and perceived fairness, but they are not a “market” in the classical sense.

This institutional view holds that these rules and structures are not “imperfections” in the market; they *are* the market. They exist to create stability, reduce conflict, and manage human relationships-something a simple supply-and-demand graph fails to capture.

It’s all about leverage: The bargaining theory of wages 🔗

Building on this institutional idea is the Bargaining Theory of Wages, a concept championed by economists like John Davidson, Maurice Dobb, and John T. Dunlop, and even supported by John Maynard Keynes. This theory is elegantly simple: wages are determined by the relative bargaining power of employers and workers.

This theory says there isn’t one single “correct” wage for a job. Instead, there’s a *range*. The top of the range is the maximum wage a company *can* pay without going out of business. The bottom of the range is the minimum wage a worker *will* accept (perhaps set by a minimum wage law or just the need to survive). Where the final wage lands in that range is purely a test of strength.

What gives each side power?

• Worker Power: This comes from strong union organisation, high skills that are in demand, the ability to go on strike, and a strong social safety net (like unemployment benefits) that allows workers to hold out for a better offer.
• Employer Power: This comes from high profits, the ability to replace workers (with other people or machines), a large pool of unemployed people to hire from, and the ability to withstand a strike (perhaps by having large inventories).