Promotion Signals, Experience, and Education

• DOI: http://doi.org/10.1111/jems.12132
• Published date: 01 March 2016
• Date: 01 March 2016
• Author: Eduardo Melero,Michael Bognanno

Promotion Signals, Experience, and Education

MICHAEL BOGNANNO

Department of Economics, Temple University

IZA – Institute for the Study of Labor

Philadelphia, PAUSA

bognanno@temple.edu

EDUARDO MELERO

Department of Business Administration

Universidad Carlos III de Madrid

Spain

eduardo.melero@uc3m.es

This paper uses a nation-wide representative survey of employees to examine whether more infor-

mative job promotions carry larger wage increases. In job assignment models with asymmetric

information, unexpected promotions send a signal to the external labor market to revise upward

their assessment of a worker’s ability. The employing firm must then increase wages to prevent

the worker from being bid away. Less educated workers are assumed to come from a group with

lower average ability. Their promotion is hypothesized to induce a larger positive update of the

assessment of their ability than the promotion of more educated workers. Promotions of less

experienced workers, with less known about their abilities, should also result in strong signaling

effects. We obtain regression results consistent with our hypotheses, although the size and signif-

icance of the estimates hinge on the promotion definition. Inexperienced workers gain more from

promotions that entail new managerial responsibilities, whereas less educated workers gain more

from nonmanagerial promotions. This sensitivity to the definition of promotion suggests that

promotions reveal information on different dimensions of ability for different types of workers.

1. Introduction

Initial studies providing detailed descriptions of the internal labor markets in specific

firms helped to stimulate job assignment models with implications consistent with the

features of firms documented in these papers.1The features set out included infrequent

demotion, large pay increases upon promotion, and fast tracks in promotion. Because

these job assignment models were designed with knowledge of the existing findings in

∗We are grateful to Emre Ekinci, Jed DeVaro, Jaime Ortega, Neus Palomeras, Michael Waldman, and two

anonymous referees for their valuable suggestions. Wealso thank seminar participants at IZA-Institute for the

Study of Labor, the 2nd Madrid Work and Organizations Workshop, the 28th EGOS Colloquium in Helsinki

and the Economics Seminar Series at Universidad de Salamanca for their helpful comments on earlier drafts of

this work. Eduardo Melero gratefully acknowledges financial support from Grant ECO2012-333012 from the

Spanish Ministerio de Econom´

ıa y Competitividad. The data used in this article were made available through the

ESRC Data Archive. The data were originally collected by the ESRC Research Centre on Micro-socialChange

at the University of Essex (now incorporated within the Institute for Social and Economic Research). Neither

the original collectors of the data nor the Archive bear any responsibility for the analyses or interpretations

presented here.

1. See Baker et al. (1994a, b) and Lazear (1992) for early personnel case studies. Job assignment models

designed to be consistent with finding from Baker et al. (1994a, b) include Bernhardt (1995) and Gibbons and

Waldman(1999).

C2015 Wiley Periodicals, Inc.

Journal of Economics & Management Strategy, Volume25, Number 1, Spring 2016, 111–132

112 Journal of Economics & Management Strategy

the empirical literature, testing these theories requires examining implications not tested

in the early empirical literature.

A job assignment model with testable implications beyond those in the early em-

pirical literature is one that incorporates asymmetric information and a signaling aspect

to promotions. Because of the assumption that the employer has private information re-

garding worker ability that is unknown in the external labor market, promotions cause

an upward revision in the external labor market’s perception of worker ability. The

more unexpected the promotion, the more the worker’s ability is upwardly revised in

the external labor market and the more earnings must rise for the worker to be retained.

This induces incumbent employers to behave strategically and makes promotions rarer

events (Waldman 1984a). The first empirical evidence of asymmetric learning and a

labor market signaling effect was found by Gibbons and Katz (1991). The process of

testing specific implications of asymmetric information in job assignment models and

the signaling role of a promotion has begun to some extent with papers by Gibbs (2003),

Belzil and Bognanno (2010), and DeVaro and Waldman (2012).

Gibbons and Katz (1991) build and test an asymmetric information model of layoffs

in which firms gain private information of worker ability and have discretion over who

is let go when layoffs occur. Because firms layoff the low-ability workers, layoff sends

a negative signal to the labor market regarding worker ability. It is assumed there is

no negative inference about worker ability when layoffs are because of plant closing.

Their empirical results are supportive of the model in that laid off workers receive lower

post-displacement wages and suffer longer unemployment spells when the layoffs are

not associated with a plant closing.

In terms of job assignment and promotions, Gibbs (2003) uses the Baker et al.

(1994a, b) data on a single large firm to examine the signaling effect of promotions

in two ways. First, he considers the pay change on promotion for employees as a

function of the employee’s salary percentile within their job title in the preceding year,

finding that workers lower in salary receive larger raises upon promotion. Second, he

predicts promotion and examines how the wages changes upon promotion vary with

the predicted probability of promotion. Consistent with an asymmetric learning model

of job assignment, those with a lower predicted probability of promotion receivedlarger

pay increase upon promotion.

Job assignment models have implications for promotion fast tracks originating

from two sources. First, more able workers increase in ability faster and achieve the

thresholds that trigger promotions more quickly at all hierarchical levels. This source

of fast tracks results regardless of informational assumptions. Second, in models of job

assignment with asymmetric learning, it is costly for a firm to reveal a signal of high

ability to the external labor market because pay must then rise to retain the worker

(Waldman, 1984a). For this reason,firms prefer to promote the workers who are already

viewed as being of high ability in the external labor market. Because workers with an

early initial promotion are viewed as high ability, they have an advantage in subsequent

promotion (Bernhardt, 1995). This phenomenon also gives rise to promotion fast tracks.

Because revealing strong signals is costly to the firm, less educated workers are less

likely to be promoted than equally able workers with more education and, when they

are promoted, the level of ability signaled is stronger. Belzil and Bognanno (2010) find

some support for the notion that the signaling role of promotion, evidenced through

promotion fast tracks, is stronger for less educated workers.

Support for education serving an informational role in screening for exogenous

ability was found in Riley (1979) among others. Assuming years of education is positively