Up to the early 1990s, real wages in the U.S. and in Europe were considered to be almost noncyclical by macroeconomists who derived this evidence from analyses of aggregate time series. However, the use of longitudinal microdata allows researchers to follow the same workers over time, and more recent micro-based studies showed that wages in fact react to recessions and expansions in a procyclical way. Solon, Barsky, and Parker (1994) attribute the phenomenon that real wages at an aggregate level barely show any cyclicality to composition effects.
They demonstrate that the movement of real wages with the cycle is not visible due to a composition bias, which arises from a higher share of low-skilled workers being employed during peaks. A number of studies found wage procyclicality particularly for workers who change employers, but more recently also for workers who stay with the same firm. Recent work by Devereux (2001) and others reveals that the cyclicality of real wages differs strongly between salaried and hourly paid workers, and between different wage measures, depending on whether overtime and bonus payments are taken into account.
This paper contributes to the literature on the cyclicality of real wages in two ways. Most important, it provides first evidence for a rigid labor market, using individual based micro data from the German Socio-Economic Panel Study (SOEP) for the period 1984 to 2004. While the previous studies concentrate on the U.S. and the U.K. labor market, which are acknowledged to be quite flexible in terms of wage setting and job mobility, the objective of this study is to reveal whether previous findings can be validated for a labor market that is known as being relatively inflexible. It is quite possible that labor market rigidities, which may stem from the presence of unions or from employment protection legislation, affect the sensitivity of the real wage to the business cycle.
Therefore, it will be investigated whether findings of previous studies on Anglo-American economies can be transmitted to more regulated economies. Second, further evidence on real wage cyclicality is produced by comparing the cyclicality of different wage measures. In addition to the standard hourly wage rate and hourly wage earnings including overtime and bonus payments, a new wage measure is examined, which takes into account not only paid overtime, but also unpaid working hours. Effective wages are calculated by averaging total earnings over all working hours, i.e. standard hours, paid overtime and unpaid overtime. The effective wage is therefore the real compensation of the total work done, and has not been examined in the wage cyclicality literature before.
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The Cyclicality of Effective Wages within Employer Employee Matches in a Rigid Labor Market
