Noisy selection model and the evolution of firm size and within-firm earnings distributions: a unified approach

Abstract

Striking parallels observed in the evolution of firm size and within-firm earnings distributions over time are documented. At the time of entry, the distribution of the whole sample and that of eventual survivors look similar, but the distribution of survivors subsequently shifts to the right. The left tails thins out while the right tail thickens, and the variance increases. While separate theories in industrial organization and labor literature are offered to account for this evidence, we demonstrate that it can be explained in a unified framework presented by noisy selection. In particular, we show explicitly that noisy selection implies the shift of the conditional distribution to the right because less efficient workers (firms) face higher hazard rates before their true efficiency is revealed with certainty.