Earnings dynamics, inequality, and firm heterogeneity

Studies of individual earnings dynamics typically ignore firm heterogeneity, whereas worker and firm decompositions abstract from the life cycle. I study firm effects in individual earnings dynamics for the Italian private sector population, using the covariance structure of co-workers for identification. My model allows for dynamics of both worker and firm effects, worker-firm sorting, worker segregation, and correlation among connected firms. While firms explain most of the earnings variance when workers are young, workers explain most over the life cycle. Sorting of workers across firms is substantial, especially for younger workers. Standard earnings dynamics models overstate the relevance of individual heterogeneity.