Passive Discrimination: When Does It Make Sense to Pay Too Little?

Economists have long recognized employers' ability to construct benefits packages to induce workers to sort themselves into and out of jobs. For instance, to encourage applications from individuals with a highly valued but largely unobservable characteristic, such as patience, employers might offer benefits that patient individuals are likely to value more than other individuals. By offering a compensation package with highly valued benefits but a relatively low wage, employers will attract workers with the favored characteristic and discourage other individuals from applying for or accepting the job. While economic theory generally views this kind of self-selection in value neutral terms, prejudiced employers could exploit this mechanism to systematically discourage individuals on the basis of observable characteristics that the law prohibits employers from considering in their hiring decisions. As long as groups systematically differ in their preferences for various employment terms and conditions, employers can generate sorting in the application and employment acceptance stages, leading to the desired segregated outcome in a way that regulators will find difficult to prevent without dictating uniformity in benefits packages. We develop a formal model as well as an intuitive discussion of this phenomenon. We provide a number of representative illustrations of how a prejudiced employer could exploit preference heterogeneity for discriminatory ends. These mechanisms include wage and benefit packages such as (1) high pension, low wages; (2) commission-based salaries; (3) Sundays-off policies; and (4) free school tuition. We also note that some employers might end up with a segregated workforce even when they have no intention to sort workers or when they intend to sort for a nondiscriminatory characteristic. Finally, we conclude that current federal antidiscrimination law inadequately addresses either intentional or unintentional passive discrimination. Neither disparate treatment nor disparate impact frameworks are well suited to grappling with this form of structural discrimination. Passive discrimination facilitates rather than impedes employee choice and thus might not be viewed as discrimination per se, even if it results in workplace segregation or means that individuals with protected characteristics who fail to self sort are least likely to value the form of compensation and fringe benefits they receive. We finish with a discussion of some judicial and legislative approaches that may ameliorate passive discrimination.