Ebook Heterogeneous Workers and Labor Market Dynamics Following a Trade Shock
Economists advocate free trade based on five main theoretical arguments: it leads to a more efficient allocation of resources across industries; firms accessing new markets benefit from economies of scale; market power is reduced; consumers benefit from a wider range of products ; and there are productivity gains at the firm and industry levels. Typically, these arguments are based on long run theories that assume perfect factor mobility between industry sectors or between firms within a sector. Nevertheless, we still have little evidence on the speed with which labor and capital reallocate themselves across sectors and firms after trade liberalization.
This lack of understanding of short to medium run effects of trade liberalization on the labor market and how they interact with individual worker characteristics often generates tension between economists and policy makers. Workers with different characteristics have different wage opportunities in different sectors and different abilities to arbitrage away wage differentials induced by trade. Workers who have accumulated a substantial amount of human capital specific to import competing sectors may be reluctant to change sectors after liberalization because they would lose a substantial fraction of this capital (Neal (1995)). Older workers may have a stronger preference for the status quo and may be more averse to moving towards growing export&oriented sectors. More educated workers are more likely to have very specific occupations and are therefore less likely to change sectors of employment, for example, highly specialized engineers who can only work in specific high tech oriented industries, or lawyers and teachers who can only work in the services industry and so on. Finally, younger generations continually enter the labor market, adding flexibility to labor adjustment in response to external shocks. Consequently, trade liberalization may have very heterogeneous short run effects across the population.
In order to inform the policy debate by better understanding the short to medium effects of trade liberalization, this paper estimates a dynamic labor market equilibrium model with overlapping generations, heterogeneous workers, endogenous accumulation of sector specific human capital and costly sector switching. Wages are determined in equilibrium and are thus affected by trade liberalization.
It should be emphasized that the introduction of worker heterogeneity into the econometric analyzis of labor reallocation following trade reforms is not only a matter of great significance from an economic and policy point of view. It is also of important from an econometric point of view. In a model with agents optimally choosing their sector of employment, rigorously modeling counter factual unobserved wage offers is crucial for a clearer interpretation of the structural parameters. In order to model counterfactual unobserved wage offers as precisely as possible, we should take advantage of observable individual characteristics and possibly allow for worker fixed or random effects.
The data used in this paper come from a unique panel of workers that I constructed using employer employee data from Brazil from 1986 to 2005, which provides us with a yearly census of the formal labor market. In order to accommodate frequent transitions out of the formal labor market, I allow for a sector called "ZERO sector" which bundles unemployment, informal employment, self employment or out of the labor force. The reason behind bundling these states is that once a worker drops from my panel in a given year, we cannot tell which is his true state among the former four alternatives.
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