A Proven Technique To Increase Your Labor Costs

Monday, March 23, 2015

Rational actors will never pay more than is necessary. Given two identical products that produce equivalent levels of value, they will always select the cheaper of the two. In economics, we refer to this principle as "wasting money is stupid." However, many companies are violating this principle by going out of their way to increase their labor costs.

First, a quick review of two economic principles:

• Given a fixed demand for a good, reducing its supply will generally increase its price. This is because buyers are forced to compete with each other in order to buy the good. This is why many firms intentionally restrict the supply of the "hot" Christmas toys each year - it raises the price that they can charge.
• Increasing the supply of substitutes (items that can be used instead of another good) tends to reduce the cost of the original good. This is because buyers will realize that there's no point in bidding the cost of the original good higher when they could simply buy something else to fulfill their needs. If gasoline at the station to the east of my home increases in price, I simply buy my fuel at the station to the west.

So how does this all relate to the job market? As a certified project manager, I've been in contact with many excellent project managers who have been looking for work. Though they are often highly skilled in their trade, moving to new companies proves quite challenging.

Firms are setting very specific demands for their job candidates. It's not enough to be a certified, experienced project manager. One must also be experienced with the exact technology stack used by the company and have years of experience in the exact same vertical as the hiring company. According to many HR departments, a project manager who spent ten years overseeing teams that built excellent .Net software applications for the financial industry couldn't possibly lead an insurance firm to build a fantastic Java software system. This despite the fact that project managers do not (and generally should not) be making technical or business decisions in the first place.

These requirements provide little value to their firms, but what do they do to the candidate pool? They automatically constrict it - quite strongly. Not only does this constriction make it very difficult to find a candidate that matches their requirements, but it artificially increases the salary required to hire him quite substantially. One of three results is likely:

• A matched candidate will be capable and have all of the desired traits. Given the uniqueness of his resume, and the minimal competition from other candidates, he will have a strong bargaining position and be able to demand a sky-high salary.
• A matched candidate will be of low quality but match all of qualifications. Like his more capable counterpart, he will be able to demand a salary higher than he would otherwise be able.
• The firms are unable to find any candidates matching their needs and they are forced to rethink their strategy, after wasting significant hours and dollars on a failed search.

Not one of the above results is beneficial to the hiring company. So why do firms force themselves into paying premium prices for candidates that are arguably no better than those that could be found for much less (had their requirements been less stringent)? Hiring managers need to learn that every business requirement will have an economic effect upon their costs. Needlessly increasing a cost-basis should never be considered economically desirable.

Want to learn to think like an economist? Read my book The Software Pricing Handbook. Need advice for your business? Contact me for a private consultation.