THE QUARTERLY JOURNAL OF ECONOMICS Vol. CV May 1990 Issue 2 THE FAIR WAGE-EFFORT HYPOTHESIS AND UNEMPLOYMENT* GEORGE A. AKERLOF AND jANET L. YELLEN This paper introduces the fair wage-effort hypothesis and explores its implica tions. This hypothesis is motivated by equity theory in social psychology and social exchange theory in sociology. According to the fair wage-effort hypothesis, worker proportionately withdraw effort as their actual wage falls short of their fair wage. Such behavior causes unemployment and is also consistent with observed cross- section wage differentials and unemployment patterns . INtROdUCTION This paper explores the consequences of a hypothesis concern g worker behavior, which we shall call the fair wage-effort tion of a fair wage; insofar as the actual wage is less than the fair wage, workers supply a corresponding fraction of normal effort. If e denotes effort supplied, w the actua fair wage-effort hypothesis says that =min(u/u*,1), where effort is denoted in units such that i is normal effort This We would like to thank Samuel Bowles, Daniel Kahneman under grant numbers SES 86-005023 and sEs 88-07807 administered by the titute for Business and Economic Research at the University of califo Akerlof and Yellen [ 1988] contains a summary of the results obtained in this e 1990 by the President and Fellows of Harvard College and the Massachusetts Institute of Technology. The quarterly Journal of Economics, May 1990