Reservation wages represent the lowest wage for which an individual is willing to work. They are an important economic variable because they determine, among other things, whether or not an unemployed person will pick up a certain job. However, reservation wages are quite difficult to measure as they are usually not directly observable in the real world.
A new IZA discussion paper by Andreas Müller and Alan B. Krueger provides fresh evidence on the behavior of reservation wages over the unemployment spell using high-frequency longitudinal data from a survey of unemployed workers in New Jersey. The workers were interviewed on a weekly basis for up to 24 weeks.
The authors find that self-reported reservation wages decline at a modest rate over the spell of unemployment: per week of unemployment wages decline between 0.05 to 0.14 percent. This decline is driven primarily by older individuals and those with personal savings at the start of the survey.
The longitudinal nature of the data also allows to test the relationship between job acceptance and the reservation wage and offered wage. Job offers are more likely to be accepted if the offered wage exceeds the reservation wage, and the reservation wage has more predictive power in this regard than the pre-displacement wage, suggesting the reservation wage contains useful information about workers’ future decisions.
In addition, there is a discrete rise in job acceptance when the offered wage exceeds the reservation wage. In comparison to a calibrated job search model, the reservation wage starts out too high and declines too slowly, on average, suggesting that many workers persistently misjudge their prospects or anchor their reservation wage on their previous wage.
Read abstract or download discussion paper [PDF].