Team production in competitive labor markets with adverse selection

Team production is a frequent feature of modern production processes. Combined with team incentives, team production creates externalities among workers as workers' utility upon accepting a contract depends on their colleagues' productivity. We study the effects of such externalities in a competitive labor market if workers have private information on their productivity. We find that in any competitive equilibrium there is Pareto-effcient separation of workers according to their productivity. We further find that externalities facilitate equilibrium existence, where arbitrarily small externalities can be suffcient to guarantee existence.