Employment by Design: Employees, Independent Contractors and the Theory of the Firm

A worker’s status as an “employee” is essential for protection under many modern employment laws. Even when it is clear that the worker is an “employee,” the worker’s rights are only against a firm that qualifies as that worker’s “employer.” Neither “employee” nor “employer" has any fixed or precise meaning. When firms acquire work, they often do so creatively in ways that resemble employment in some respects and resemble the purchase of work from non-employees in other respects. Many workers are ambiguous, and much employment litigation involves a problem of classifying workers one way or the other. This article invokes the economic and organizational “theory of the firm” to explain how firms decide whether to hire employees or to buy work from others. The theory of the firm can be useful not only for understanding why a firm might choose one option rather than the other, but also for determining what the firm has done in fact. Thus, this article proposes incorporating the theory of the firm in the rules for determining whether a worker is an employee or a non-employee seller of work, i.e., an independent contractor.