Location and wages: the contribution of firm and worker effects in Brazil

The objective of this paper is to assess the contribution of unobservable firm and individual heterogeneity for the location effects on wages and for the variation of wages in Brazil. In the first stage we estimate the effects of location through a wage equation, controlling for observable worker characteristics and unobserved heterogeneity of workers and firms. In a second stage, the estimated location effects are regressed on the fixed effects of firms and workers. We use micro data panel for the period 1995-2008 (RAIS-Migra). We estimate the model proposed by Abowd et al. (1999) for the wage decomposition, to deal with multiple fixed effects in large databases matching workers and firms. One contribution of this paper is to deal with more controls than usual in this type of analysis. As for the literature on the Brazilian case, the simultaneous control for firm and worker effects is also an important contribution. The findings show that firm and worker effects account for a substantial variation of wages across individuals (93%) and for the variation in location effects across metropolitan areas (95%). In the first and second stages individual characteristics are more important than firm effect to explain wage differentials (individuals 91%, firms 80%) and location effects (92%, 41%). Controlling for all these effects, the “pure” agglomeration effects would amount to only 5%. Therefore, both effects account for substantial shares of the variation of real wages and location effects on wages in Brazil.