Labor adjustment costs and asymmetric cost behavior: An extension

Abstract

The issue of asymmetric cost behavior has attracted significant interest in the managerial accounting literature. The literature has hypothesized that adjustment costs, particularly labor adjustment costs, play a significant and central role in driving empirically observed cost behavior patterns. Recent studies attempt to empirically test this hypothesis, albeit with distinct limitations. Using a new proxy for labor adjustment costs in a different population of firms, our study takes a fresh look at this hypothesis. We test the robustness of results documented in prior studies to help substantiate the credibility, reliability, and stability of prior findings. Our proxy for labor adjustment costs captures the reliance on skilled labor across industries in a population of US public firms. Prior studies argue that skilled labor is associated with higher adjustment costs than unskilled labor due to greater hiring and firing costs associated with skilled labor. Based on the theoretical underpinnings of asymmetric cost behavior, we expect that a higher reliance on skilled labor will be associated with greater cost asymmetry. Our empirical results support this proposition. In additional subsample tests, we also find that the effect of labor adjustment costs on cost asymmetry is more pronounced when unemployment rates are low, for firms located in high Wrongful Discharge Laws (WDL) states, and for firms situated in low-hiring credit states. Together, these results provide compelling evidence that validates the consequential role of labor adjustment costs in determining asymmetric cost behavior