A Theory of Employment Systems considers why there are such great international differences in the way employment relations are organized within the firm. Taking account of the growing evidence that international diversity is not being wiped out by 'globalization', it sets out from the theory of the firm first developed by Coase and Simon, and explains why firms and workers should use the employment relationship as the basis for their economic cooperation. The originality of the employment relationship lies in its flexibility. It gives managers the authority to organize work, but it also establishes limits on employees' obligations. The author argues that these limits are provided by four basic types of employment rule. Which one predominates in a given environment is the source of international diversity in employment relations. Drawing upon evidence from the US, Japan, France, Germany, and Britain, the theory is extended to show why such diversity extends deep into key areas of human resource management, such as performance management, incentive pay, and skill development. It also explains why the open-ended employment relationship continues to dominate work despite the growth of market-mediated work relations.