The Costs of Job Displacement and the Demand for Industry-Specific Human Capital

It is well established that job displacement leads to large and persistent earnings losses, but the reasons for these long-term losses remain unclear. A leading theory ties earnings losses to the demand laid-off workers face for their industry-specific human capital, yet evidence in support of this theory is lacking. This paper proposes a novel method for estimating the demand for workers’ industry-specific skills. I proxy for the worker’s skill set with her occupation, and measure how industry-specific her occupation is by the share of the occupation that is employed in her industry. The demand for the worker’s industry-specific skills is then estimated by the industry growth rate. Applying this measure, I test for heterogeneity in the costs of displacement for manufacturing workers in Israel. I show that workers laid off from shrinking industries who held highly industry-specific occupations suffer from substantially greater earnings losses, as predicted by the theory. Within shrinking industries, these workers experience earnings losses that are 76% higher than workers in occupations with low industry-specificity. These losses in earnings are driven by a persistent effect on employment, as workers with industry-specific occupations are 2.5 times more likely to exit the labor market in the years following displacement. The findings are robust to within-firm analysis, indicating that these results are not explained by a loss of firm wage premiums.