Insider Outsider Theory Explained


The insider outsider theory is an examination of labor economics when examining employment. It looks at the economic agents in markets where some people have access to privilege and advanced positions and others do not. First developed in 1984 by Dennis Snower and Assar Lindbeck, the idea is that “insiders” have more access to opportunities than “outsiders.” This creates a disparity in labor turnover costs.

Within any organization, people who are already employed there have more favorable future employment opportunities than those not already employed there. Although there are always exceptions, the employer places a greater emphasis on the incumbent employee compared to potential outsiders because of the cost-savings that are involved.

If an insider is able to be put into a position of importance, then there are numerous opportunities for savings possible. The employer doesn’t have to pay for the costs of hiring an outsider because the employee is already on the payroll. The cost of terminating an employment contract disappears as well. The costs of training a new employee in the ways of the business go away.

That is why it is to the benefit of the employer to focus on insiders. It is to the benefit of society, however, when an employer focuses on outsiders.

What Happens When Outsiders Are the Point of Emphasis?

Insiders want to keep the privileged positions for themselves. Even if they are not awarded with such a position, a trend toward the incumbent provides a certain security in wages and job placement for insiders. The insider employees benefit because the bidding process for wages is eliminated when outsiders are not vetted for hire.

When workers are unemployed, there is a certain willingness to work at a wage that is lower than the wages that currently exist for insiders. Part of this may be fueled by desperation as the outsider is not earning a paycheck. There is also a risk/reward evaluation that takes place in the thinking of the outsider. By accepting a lower wage now, they may be able to take advantage of insider wages later when they earn incumbent status.

By hiring outsiders as a point of emphasis, society does gain a benefit in the area of unemployment. More workers have chances to find jobs, which means eventually, everyone who wants to work can find work. There is a negative effect on society as well. Someone will always be willing to work for less than what an employee is already earning if their livelihood is on the line. That depresses innovation and wages simultaneously.

Skill-based workers become a lower priority for employers with an outsider emphasis, which can then reduce the quality of product or service that is being provided. As more employers focus on the outside worker over the inside worker, the standard of living for an entire community can go down. It becomes a race to the bottom where the employer wins, but everyone else loses.

How to Counter Outsider Emphasis

There are two ways for the outsider emphasis to be countered within the insider outsider theory. The first is to incentivize insiders to fight for their positions. By showing employers what their true worth happens to be, their productivity becomes evidence of the higher wages that they are able to earn. Insiders often take their access to privilege for granted. When they focus on earning that privilege daily, the added productivity naturally excludes outsiders from having access to incumbent status.

The second option occurs when an external shock happens to an employer. Should revenues sharply decrease or market preferences change, layoffs can occur. In this circumstance, insiders suddenly become outsiders. Because there are fewer positions of privilege, even higher wages can be set by those who remain, while at the same time, former insiders must continue working to prove their continued productivity.

When insiders are able to exert their influence properly, unemployment actually rises and becomes permanently higher because they can prevent outsiders from gaining access to positions. That is why a balance between insider employment and outsider employment is often necessary.

What Happens When Balance Is Achieved?

By keeping some insiders happy and by offering outsiders some positions, employers can balance cost, experience, and innovation to a manageable degree. Insiders can take advantage of high-paying privileged positions while employers get to use the insider experience to bring outsiders into the family. Over time, the outsiders gain insider status and the cycle repeats itself.

When balance is achieved, costs become predictable. Innovation remains possible. Unemployment levels can be reduced. There is an incentive to earn more, but chances to try new things as well. With the insider outsider theory, balance equates to happiness.