Wage dynamics in the presence of unobserved individual and job heterogeneity

This paper develops an error-components model for wages that incorporates individual fixed effects, job-specific effects, and a persistent shock with an autoregressive structure over time. The novel feature of the model is that the estimation of this dynamic persistence is robust to any distributional form for the unobserved individual and job components, and the relationship between them. Then, additional assumptions are considered to separately identify the relative magnitude of these two components. In the data drawn from the PSID, we find that — once individual and job-specific effects are taken into account — the estimated persistence is significant but small. In addition, the ratio of the estimated variance of the job-specific effects to the variance of the individual time-invariant component is 40%. •We develop a wage model with individual effects, job effects and a persistent shock•Estimated persistence is robust to any distribution of the unobserved heterogeneity•Once individual and job effects are considered persistence is significant but small•The variance of the job effects is 40% of the variance of the individual component