Worker and Firm Heterogeneity in Wage Growth: An AKM Approach

Abstract

This paper estimates a wage growth equation containing human capital variables known from the traditional Mincerian wage equation with year, worker and firm fixed effects included as well. The paper thus contributes further to the large empirical literature on unobserved heterogeneity following the work of Abowd, Kramarz, and Margolis [1999; Econometrica 67(2): 251–333]. Our main contribution is to extend the analysis from wage levels to wage growth. The specification enables us to estimate the individual-specific and firm-specific fixed effects and their degree of explanation on wage growth. The analysis is conducted using Danish longitudinal matched employer–employee data from 1980 to 2006. We find that the worker fixed effect dominates both the firm fixed effect and the effect of the observed covariates. Worker effects are estimated to explain 7–12 per cent of the variance in wage growth whereas firm effects are estimated to explain 4–10 per cent. We furthermore find a negative correlation between the worker and firm effects, as do nearly all authors examining wage level equations.