SISTEMAS DE ALMACENAMIENTO

To understand what is meant by earnings ability, consider two workers who work in the same industry at non-union-affiliated jobs. Both have earned the same academic degrees and have worked the same number of years in addition to having worked at their current job the same amount of time. Comparing their hourly wages, the difference could be at- tributed to differences in common, macroeconomic conditions or temporary, idiosyncratic factors such as health shocks. But if the difference in their wages is not due to macroe- conomic conditions and persists through time, then the difference reflects a permanent factor that I refer to as earnings ability.1

Now imagine organizing the labor force into a single line ordered by earnings ability. At one end are workers with low earnings ability and at the other end are workers with high earnings ability. If some workers are repeatedly paid less, despite having the same experience and academic degree, then it is reasonable to expect that in periods of high unemployment the lower-paid, lower-skill workers exit employment. In other words, who is unemployed and employed depends on earnings ability and a cutoff determined by the business cycle. Lower-ability workers who are below the cutoff are unemployed and higher-ability workers who are above the cutoff are employed. Panel A of figure3.1depicts this model of the labor market for a baseline unemployment rate.

In the model depicted in figure3.1, wages have two components. The first component reflects earnings ability. A worker with higher earnings ability earns a higher wage than a worker with lower earnings ability. The second component reflects the business cycle. Wages of all workers are positively correlated with the business cycle.

As the economy expands in panel B all wages rise according to the business-cycle com- ponent. But the expansion provides job opportunities to previously unemployed, lower- ability workers. As a consequence, the average earnings ability of employed workers falls because of the workers who compose the average. This fall can be seen by comparing

1_{To be clear, earnings ability includes, among other factors, an individual’s race and gender. In section}

3.4.3I show that the composition of employment and unemployment varies little over the business cycle in terms of race and gender. In other words, the reason wages are cyclical is that within a gender category, wages are cyclical. This fact is consistent with the idea that what drives wage cyclicality is a component of earnings ability that is unobservable to the researcher and reflects an individual’s innate productivity.

Unemployed

Employed

Low earnings ability _{High earnings ability}

Business-cycle cutoff

A: Baseline unemployment rate.

Unemployed

Employed

Low earnings ability _{High earnings ability}

Business-cycle cutoff

B: Low unemployment rate.

Figure 3.1: Workers organized by earnings ability to illustrate how the average wage can appear less cyclical than individual-level wages. A business cycle determines unem- ployment rates. The magenta squares indicate average earnings ability among employed workers.

the magenta squares, which indicate average earnings ability. If the magnitude of the business-cycle component outweighs the compositional effect, then the average wage in- creases.

The framework is useful because it explains how the ability of workers added to em- ployment over the business cycle cause the average wage to be less cyclical than individual- wages. The framework also establishes how longitudinal data can be used to separate earnings ability from common macroeconomic conditions that affect wages, while taking into account other factors, like on-the-job tenure, in a statistical model of wages.

A statistical model for the real wage paid in period t to person i, wi,t, is

logwi,t = αi + Xi,t0 β + ψt + νi,t, (3.1)

where {αi}are person effects that capture workers’ time-invariant earnings ability; Xi,t is

a vector of time-varying controls that includes years of experience, union affiliation, in- dustry effects, and educational effects for earned academic degrees; {ψt}are period effects

that capture macroeconomic conditions common to all workers; and νi,t is an unobserved,

time-varying error that captures shocks to human capital, person-specific job matches, and other factors.

Including {αi}in (3.1) is key because the earnings-ability terms capture the composi-

tional effects depicted in figure3.1and highlighted bySolon, Barsky, and Parker(1994). To see this, note that the collectionnˆ

ψto is used to summarize composition-adjusted wage

cyclicality. These terms trace out the estimated conditional expectation through time con- trolling for earnings ability and time-varying characteristics of workers.

If person effects are not included in (3.1), then an estimate of wage cyclicality will be biased by earnings-ability composition. According to the narrative, a boom in period t0 provides jobs for low-ability workers. Low-ability worker i• enters into the sample

with a low νi•_t0 without α_i included in the statistical model. Because the period effects are constructed to make residuals have zero mean, ˆψt0 will be pulled down because of composition. Without person fixed effects, real wages appear less cyclical because of compositional bias. This narrative is consistent with the discrepancy between cyclical measures based on aggregate versus individual-level data and the model of employment depicted in figure3.1.

The organized-by-ability model, however, is missing a major component of wages that features meaningfully in the statistical model for wages in (3.1). In NLSY79 data, the R2_s

from the estimated statistical models attribute around 40 percent of the variation in wages to ν. Adding this component to the model lets wages reflect earnings ability, the business

cycle, and idiosyncratic productivity fluctuations. The next section considers this feature in the context of a random-search environment.