Category Archives: Contingent Workforce

24/1/16: Unobserved Ability and Entrepreneurship

Yesterday, I posted some links relating to non-Cognitive Skills, contextualising these into the Gig-Economy related issues. Here is another interesting study relating to human capital and linking unobserved (and hard to measure) ability to entrepreneurship.

From the policymakers' and indeed investors and other market participants perspective, the question of why do some individuals become entrepreneurs is a salient one.

Identifying the causal relationships between external conditions, systems and policy environments, as well as behavioural and other drivers of entrepreneurship is of great value for setting policies and systems for enhancing the rate of entrepreneurship creation in the economy. A recent paper, titled "Unobserved Ability and Entrepreneurship" by Deepak Hegde and Justin Tumlinson (Ifo Institute at the University of Munich, April 20, 2015) attempts to answer to key questions surrounding the formation of entrepreneurship, namely:

  1. Why do individuals become entrepreneurs? and
  2. When do they succeed? 

The authors "develop a model in which individuals use pedigree (e.g., educational qualifications) as a signal to convince employers of their unobserved ability. However, this signal is imperfect…" So far - logical: upon attaining a level of education, and controlling for quality of that education (complexity of degree programme, subject matter, quality of awarding institution, duration of studies, attainment of grades etc), a graduate acquire more than a sum of knowledge and skills attached to the degree. They also acquire a signal that can be communicated to their potential employer that conveys they lateen (hidden) abilities; attitude toward work, aptitude, ability to work in teams, ability to work on complex systems of tasks etc.

Problem is - the signal is noisy. For example, a graduate with 4.0 GPA from a second tier university can have better potential abilities than a graduate with 3.7 GPA from a first tier ranked university. But that information may not be clearly evident to the potential employer. As the result, there can be a large mismatch between what an applicant thinks their ability is and what their CV signals to the potential employer.

In the paper, theoretical model delivers a clear cut outcome (emphasis mine): "…individuals who correctly believe their ability is greater than their pedigree conveys to employers, choose entrepreneurship. Since ability, not pedigree, matters for productivity, entrepreneurs earn more than employees of the same pedigree."

The authors use US and UK data to test their model prediction (again, emphasis is mine): "Our empirical analysis of two separate nationally representative longitudinal samples of individuals residing in the US and the UK supports the model’s predictions that

  • (A) Entrepreneurs have higher ability than employees of the same pedigree, 
  • (B) Employees have better pedigree than entrepreneurs of the same ability, and 
  • (C) Entrepreneurs earn more, on average, than employees of the same pedigree, and their earnings display higher variance."

Point C clearly indicates that entrepreneurs earn positive risk premium for effectively (correctly, on average) betting on their ability over their pedigree. In other words, the take chance in themselves and, on average, win. The real question, however, is why exactly do their earnings exhibit higher variance - is it due to distributional effects across the entrepreneurs by their ability, or is it due to risk-adjusted returns being similar, or is it due to exogenous shocks to entrepreneurs incomes (e.g. tax system-induced or contractually-structured)?

These are key questions we do not yet address in research sufficiently enough to allow us to understand better what the Gig-Economy and entrepreneurship in modern day setting imply in terms of aggregate consumption, investment, household investment and decision making by entire household in terms of labour supply, educational choices (for parents and children), etc.

As some might say... it's complicated...

23/1/16: Non-Cognitive Human Capital

In my 2011 paper on the role of Human Capital in the emerging post-ICT Revolution economy, human capital will simultaneously:

  1. Play increasingly more important role in determining returns to technical and processes innovation;
  2. Become more diverse in its nature - or more diversified - spanning measurable and unmeasurable skills, traits, knowledge, attitudes to risk and innovation, capabilities etc.; and
  3. Form the critical foundation of entrepreneurship and core employment base in the so-called Type 1 Gig-Economy - economy based on contingent workforce compered of highly skilled, highly value-additive professionals.

An interesting paper relating to the matter, especially to the last point, is a recent IZA Working paper (October 2015) titled “Non-Cognitive Skills as Human Capital” by Shelly Lundberg.

Per Lundberg: “In recent years, a large number of studies have shown strong positive associations between so-called “non-cognitive skills” — a broad and ill-defined category of metrics encompassing personality, socio-emotional skills, and behaviors — and economic success and wellbeing. These skills appear to be malleable early in life, raising the possibility of interventions that can decrease inequality and enhance economic productivity.”

Lundberg discusses “the extensive practical and conceptual barriers to using non-cognitive skill measures in studies of economic growth, as well as to developing or evaluating relevant policies. …There is a lack of general agreement on what non-cognitive skills are and how to measure them across developmental stages, and the reliance on behavioral measures of skills ensures that both skill indicators themselves, and their payoffs, will be context-dependent. The empirical examples show that indicators of adolescent skills have strong associations with educational attainment, but not subsequent labor market outcomes, and illustrate some problems in interpreting apparent skill gaps across demographic groups.”

From the Gig-Economy point of view, development of all (cognitive and non-cognitive) skills requires time and resources. In traditional workplace setting - of old variety - some of these resources and time allocations are supported / subsidised by employers (e.g. gym memberships, formal paid time off, formal paid career breaks, formal 'team building' activities, actual employer-paid training and education, employer-supported psychological wellness programmes for employees, and so on). In a Gig-Economy setting, these are not available, generally, to contingent workers.

Aside from having impact on contingent workforce skills and human capital, there are more 'trivial' considerations that should be put to analysis. Take, for example, health and psychological well-being. If a contingent workforce using company fails to assure the latter for its contingent workers, who is liable for any damages caused by over-worked, over-stressed, psychologically unwell contingent worker to the company clients?

Again, setting aside humanitarian, social and personal considerations, this question has implications for businesses using contingent workers:

  • Insurance costs and coverage for businesses;
  • Legal costs and coverage for business;
  • Reputational risks for businesses;
  • Counter-party risks for businesses; and so on

In a world where there is no such thing as a free lunch, Gig-Economy based companies should seriously consider how they are going to deal with potential costs of disruption from the Gig-Economy type of employment to life-cycle work practices and financial wellbeing of their contingent workers.

Note: More on the subject of non-cognitive skills and human capital: