Flexibility versus Performance: The Determinants of Labor
Contracts in Nairobi, Kenya
with Inbar Amit, Alison Andrew, Rob Garlick, Kate Orkin, and Carolyne Nekesa
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We examine why firms in Nairobi, Kenya offer short-term and insecure labor contracts to many of their workers.  We combine detailed information on 601 firms’ hiring and contracting practices with novel hypothetical survey instruments. We find that in deciding whether to offer long-term, stable contracts to workers, firms face a  trade-off between managing demand shocks on the one hand and minimizing training costs and optimizing worker performance on the other. We find that the big advantage to firms from using short-term contracts is that this allows them to adapt dynamically to the frequent demand shocks they face in the product market. We find that firms in our sample face large temporal variation in demand and pass on much of this risk on to their workers. Cross-sectionally, we see a strong positive correlation between the variability of firms’ demand shocks and their use of short-term labor contracting.  Our hypothetical vignettes also indicate that when faced with a short-term demand shock, firms expect to respond by hiring short-term labor.  However, the main drawbacks from short-term contracting are that it brings higher onboarding costs and worse-performing workers. For the median role, firms report relatively low costs of onboarding new workers, which is consistent with why firms frequently adopt these short-term arrangements. However, we find considerable heterogeneity between roles and find that the roles that have higher onboarding costs are precisely those that firms hire for on longer-term contracts. Finally, we use our hypothetical vignettes to document that firms perceive that the same worker performs worse on a short-term contract. We bring these findings together through a model of firm contracting.