The Fallacy of Composition Bias in the RealWage Cyclicality Puzzle
Composition bias in aggregate wages is often a scapegoat for the apparent unresponsiveness of wages over the cycle. Since Bils (1985) and in particular Solon et al. (1994), who find that that real wages are highly pro-cyclical a general consensus has emerged that the observed ‘mild’ cyclicality in real wages is due to composition effects which cause counter-cyclical biases because low wage jobs are the first to be destroyed during recessions (Pissarides, 2009). In this paper, it is argued that the results of Solon et al. (1994) and other papers using similar techniques cannot possibly disentangle the true effect of composition bias. This is because the assignment of fixed weights used to keep the composition of the work force constant is arbitrary and imposes a particular direction to the bias. Thus, rather than determining the bias it only serves to show the possible magnitude once having assumed the way the bias works. As in Blundell et al. (2003) we can unravel the bias into three interpretable parts. That is biases due to individual movement in and out of work, changes in the variation of hours worked and changes in the variance of wages over the cycle. The findings show that aggregate real wages become cyclically less responsive over the cycle and no evidence of ‘counter-cyclical’ composition bias.
|Date of creation:||Oct 2011|
|Date of revision:|
|Contact details of provider:|| Postal: School of Economics, University of Kent, Canterbury, Kent, CT2 7NP|
Phone: +44 (0)1227 827497
Web page: http://www.kent.ac.uk/economics/
|Order Information:|| Email: |
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Richard Blundell & Mike Brewer & Marco Francesconi, 2005. "Job changes, hours changes and labour market flexibility: panel data evidence for Britain," IFS Working Papers W05/12, Institute for Fiscal Studies.
- Ulrich Woitek, 2004. "Real Wages and Business Cycle Asymmetries," CESifo Working Paper Series 1206, CESifo Group Munich.
- Neftci, Salih N, 1978. "A Time-Series Analysis of the Real Wages-Employment Relationship," Journal of Political Economy, University of Chicago Press, vol. 86(2), pages 281-91, April.
- Keane, Michael & Moffitt, Robert & Runkle, David, 1988. "Real Wages over the Business Cycle: Estimating the Impact of Heterogeneity with Micro Data," Journal of Political Economy, University of Chicago Press, vol. 96(6), pages 1232-66, December.
- A Gosling & Stephen Machin, 1995.
"The Changing Distribution of Male Wages in the UK,"
CEP Discussion Papers
dp0271, Centre for Economic Performance, LSE.
- Amanda Gosling & Stephen Machin & Costas Meghir, 2000. "The Changing Distribution of Male Wages in the U.K," Review of Economic Studies, Oxford University Press, vol. 67(4), pages 635-666.
- Richard Blundell & Howard Reed & Thomas M. Stoker, 2003. "Interpreting Aggregate Wage Growth: The Role of Labor Market Participation," American Economic Review, American Economic Association, vol. 93(4), pages 1114-1131, September.
- A. D. Roy, 1951. "Some Thoughts On The Distribution Of Earnings," Oxford Economic Papers, Oxford University Press, vol. 3(2), pages 135-146.
When requesting a correction, please mention this item's handle: RePEc:ukc:ukcedp:1116. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Tracey Girling)
If references are entirely missing, you can add them using this form.