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Is it worth spending to make workers happy?

Numerous studies have found a correlation between employee satisfaction and company success. Does this mean happy employees are also the most productive workers? Should firms spend money to make workers happier with their jobs?

Answering these questions is trickier than it might seem at first glance. It could be that happier employees are more productivity and create higher profits, or could it be that working for a company that's very successful causes workers to be more satisfied with their jobs. Or perhaps companies that do well spend more on their employees, resulting in a higher level of job satisfaction.

Thus, research that finds a correlation between employee satisfaction and the success of businesses does not tell us for sure that it's employee satisfaction that causes success rather than the other way around.

A new paper by Alex Edmans, Lucius Li and Chendi Zhang, "Employee Satisfaction, Labor Market Flexibility, and Stock Returns Around the World " (here's a nontechnical summary) attempts to answer this question in a way that can isolate the influence that employee satisfaction has on company success and avoid the two-way causality problem.

This is accomplished by looking at how the annual announcement of "Best Companies to Work For" affects stock returns. If high profits cause employee satisfaction, i.e. if causality runs the other way, then this list's publication would have no impact on stock values.

However, the announcement does have an impact on stock values, indicating that employee satisfaction is associated with the expectation of higher profitability in the future. In particular, the paper finds that "employee satisfaction is beneficial for firm value, consistent with new human relations theories." Thus, it appears that companies can benefit, at least up to a point, from spending on things that improve employee satisfaction.

However, there's one caveat. The list of "Best Companies to Work For" is available for 14 countries, so it's possible to see how well this result holds up across labor markets with different institutional features. Labor market flexibility -- the ease of hiring, firing, changing jobs and responding to shocks -- is a key factor underlying this result because the relationship between employee satisfaction and firm success is much stronger in countries where labor markets are relatively flexible.

Why might this be the case? One suggestion is that when a company spends money to make workers happier in a flexible market, it can then attract the most productive workers from other firms. But when labor markets are less flexible, it's harder for workers to change employers, and the payoff from spending on worker satisfaction is much lower.

The U.S. has a relatively flexible labor market, and one reason for that is the "commodification" of labor. Increasingly, labor has come to be treated like any other input to the production process. All that matters is the contribution to the bottom line.

But unlike other inputs to production, workers can have varying degrees of satisfaction with their jobs, and this research implies that companies casting a blind eye to their workers' happiness put themselves at a disadvantage in the marketplace.

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