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Permanent and Transitory Wage Inequality of British Men, 1975-2001: Year, Age and Cohort Effects

  • Kalwij, Adriaan


    (Utrecht School of Economics)

  • Alessie, Rob


    (Utrecht University)

We examine the variance-covariance structure of log-wages over time and over the lifecycle of British men from 1975 to 2001, hereby controlling for cohort effects. Wage inequality has risen sharply during the 1980’s and early 1990’s and remained fairly constant in the second half of the 1990’s. We show that this increase is caused mainly by a strong increase in the transitory wage inequality and only to a lesser extent to an increase in the permanent wage inequality. The transitory component of wages is, however, highly persistent over time: serial correlation decreases from 0.88 over a one-year period to 0.65 over a ten-year period. The constant wage inequality in the second half of the 1990’s is attributed to a slight decrease in permanent wages inequality, a stabilization of the variance of the transitory wage shock, and the strong decrease in the transitory wage inequality for the cohorts entering employment since the end of the 1980’s. Ignoring age effects in transitory wage inequality and cohort effects, as is commonly done, leads to severely distorted inferences concerning the changes in permanent wage inequality.

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Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 686.

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Length: 44 pages
Date of creation: Jan 2003
Date of revision:
Publication status: published in: Journal of Applied Econometrics, 2007, 22 (6), 1063 - 1093
Handle: RePEc:iza:izadps:dp686
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