<P> However, a significant criticism is that moral hazard would be shifted to employers, since they are responsible for monitoring the worker's effort . Obvious incentives would exist for firms to declare shirking when it has not taken place . In the Lazear model, firms have obvious incentives to fire older workers (paid above marginal product) and hire new cheaper workers, creating a credibility problem . The seriousness of this employer moral hazard depends on the extent to which effort can be monitored by outside auditors, so that firms cannot cheat, although reputation effects (e.g. Lazear 1981) may be able to do the same job . </P> <P> On the labor turnover flavor of the efficiency wage hypothesis, firms also offer wages in excess of market - clearing (e.g. Salop 1979, Schlicht 1978, Stiglitz 1974), due to the high cost of replacing workers (search, recruitment, training costs). If all firms are identical, one possible equilibrium involves all firms paying a common wage rate above the market - clearing level, with involuntary unemployment serving to diminish turnover . These models can easily be adapted to explain dual labor markets: if low - skill, labor - intensive firms have lower turnover costs (as seems likely), there may be a split between a low - wage, low - effort, high - turnover sector and a high - wage, high effort, low - turnover sector . Again, more sophisticated employment contracts may solve the problem . </P> <P> In selection wage theories it is presupposed that performance on the job depends on "ability", and that workers are heterogeneous with respect to ability . The selection effect of higher wages may come about through self - selection or because firms faced with a larger pool of applicants can increase their hiring standards and thereby obtain a more productive work force . </P> <P> Self - selection (often referred to as adverse selection) comes about if the workers' ability and reservation wages are positively correlated . There are two crucial assumptions, that firms cannot screen applicants either before or after applying, and that there is costless self - employment available which realises a worker's marginal product (that is higher for the more productive workers). If there are two kinds of firm (low and high wage), then we effectively have two sets of lotteries (since firms cannot screen), the difference being that high - ability workers do not enter the low - wage lotteries as their reservation wage is too high . Thus low - wage firms attract only low - ability lottery entrants, while high - wage firms attract workers of all abilities (i.e. on average they will select average workers). Thus high - wage firms are paying an efficiency wage--they pay more, and, on average, get more (see e.g. Malcolmson 1981; Stiglitz 1976; Weiss 1980). However, the assumption that firms are unable to measure effort and pay piece rates after workers are hired or to fire workers whose output is too low is quite strong . Firms may also be able to design self - selection or screening devices that induce workers to reveal their true characteristics . </P>

Which statement is the best explanation of the market theory of wage determination