No Shirking Condition (NSC):

The NSC condition  is on the wage, which makes it attractive for a worker to work hard  instead of shirking. This is the essential part of the solution to the model. Thus, it requires  the workers to prefer to  exert effort. So the NSC  is simply . Note that whenever this condition  is binding, the solution chosen by  the firm will  imply that V_n = V_S. This must be the case at equilibrium, since in case of a reverse condition, V_n > V_S,  the non-shirking constraint has no influence on firm's wage decision. It will be shown below that this is contradictory because firm would always try  to set the wage as  low as it could. Let us now find a
constraint on w  such that  

We  get  the  wage  level what  is  called  the  non-shirking  wage  w(ns)by converting the above inequality to equality, i.e.,

The inequality (5.3) implies.

Note  that q -> 0  implies no  penalty. From  the above equation therefore wc get  that  if  there were not  penalty  associated with unemployment  everyone will shirk.

Demand  for  Labour  from Firm Side

We turn to demand for labour. Let us suppose that there are M identical firms, each with a production function  Qi =  f(Li) with f increasing  and  strictly concave, i.e., F  " < 0. The aggregate production is Q = F(L). Assume each worker contributes one until  of labor unless she shirks. Firms compete  by  offering wage packages  only. 

Assume that  full  employment  is efficient,  i.e.,  F'(N) >  e,.  The monitoring technology  qis  exogenous. Therefore, the only way to punish shirkers is to fire them.

Equilibrium of  the Model

In equilibrium, each firm takes wages and employment levels at other firms as given,  and finds  it  optimal  to  offer  the  going wage.  So,  firms will not  pay more than the NSC wage:  w*  = O and we'll  have  f'  (L,) = F'(L)  = 3.  That is to say, when wages are higher, workers will value jobs better. There could be two reasons for this result, viz., (i) high wages increase utility and (ii) low employment due to high wages leads to long unemployment spells. Firms will continue  to offer lower wages until NSC binds. An  immediate result of low wage is workers shirking.  In such circumstances workers only moderately prefer work  to unemployment. Moreover, they  also know  that  high  employment leads  to  shorter unemployment spells. Firms realise this and raise wages until NSC satisfied.