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Modelling income processes with lots of heterogeneity

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Author Info
Martin Browning
Mette Ejrnaes
Javaier Alvarez

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Abstract

All empirical models of earnings processes in the literature assume a good deal of homogeneity. In contrast to this we model earnings processes allowing for lots of heterogeneity between agents. We also introduce an extension to the linear ARMA model that allows that the initial convergence to the long run may be different from that implied by the conventional ARMA model. This is particularly important for unit root tests which are actually tests of a composite of two independent hypotheses. We fit our models to a variety of statistics including most of those considered by previous investigators. We use a sample drawn from the PSID, and focus on white males with a high school degree. Despite this observable homogeneity we find much greater latent heterogeneity than previous investigators. We show that allowance for heterogeneity makes substantial differences to estimates of model parameters and to outcomes of interest. Additionally we find strong evidence against the hypothesis that any worker has a unit root.

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Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 285.

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Date of creation: 2006
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Handle: RePEc:oxf:wpaper:285

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Keywords: Earnings Heterogeneity ARMA Initial Conditions Unit Root Tests

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Find related papers by JEL classification:
J30 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - General
C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data

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  27. Javier Alvarez & Martin Browning & Mette Ejrnæs, 2002. "Modelling income processes with lots of heterogeneity," 10th International Conference on Panel Data, Berlin, July 5-6, 2002 D2-3, International Conferences on Panel Data. [Downloadable!]
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