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Published in: Journal of Economics and Finance 4/2020

03-07-2020

Job Movement and Real Wage Flexibility in Eastern and Western Parts of Germany

Authors: Fei Peng, Sajid Anwar, Lili Kang

Published in: Journal of Economics and Finance | Issue 4/2020

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Abstract

We use a unique microdata set that covers the 1984–2009 period to estimate real wage flexibility in Eastern and Western parts of Germany. Empirical analysis reveals that wages of male job stayers in the Eastern and Western parts of Germany are rigid, which leads to significant wage flexibility for internal and external movers. At the aggregate level, wages of the external movers are more flexible than the wages of job stayers in bust periods (when labour market is slack) and more rigid than the wages of job stayers in boom periods (when labour market is tight). In overall terms, the West German labour market is mature but conditions in the East German labour market are consistent with transition economies. Wage flexibility in Germany’s labour market can be attributed to relatively more flexible wages of the external and internal movers in a slack labour market.
Footnotes
1
The general issue of wage flexibility has been considered by other studies such as Pino and Soto (2014). In a very interesting study, Agudelo and Sala (2017) identify the determinants of wage rigidities.
 
2
Labour market flexibility describes how quickly and to what extent the labour market adapts to economic shocks (Maza and Villaverde 2009) including adjustments in quantities (work hours flexibility and employment flexibility) and prices (wage flexibility). Wage flexibility is the ability of wages to equilibrate demand and supply in different labour market categories (Onaran 2002). Hence, wage flexibility is defined as the speed with which real wages respond to macroeconomic conditions such as the unemployment variations (Clar et al. 2007). In periods of increasing unemployment, wages should be adjusted downwards, which increases the demand for labour but the labour supply decreases, which allows the labour market to return its equilibrium and vice versa. Thus, wage flexibility is a key adjustment mechanism that determines the labour market flexibility. Wage flexibility can be measured by the adjustment of wages over the business cycle (Bils 1985; Grant 2003).
 
3
A good discussion of the changes in the German economy and labour market can be found in Panagiotidis and Pelloni (2003), Dustmann et al. (2014) and Burda (2016).
 
4
Features of a labour contract generally depend on whether or not the outcomes of a worker’s activities can be observed. Agreed outcomes that are verifiable are normally explicitly stated in the contract. If the outcomes are not verifiable, the working relationship is governed by an implicit contract (Azariadis 1975; Carmichael 1989; Cahuc and Zylberberg 2004). Through an implicit contract, the employer attempts to protect the workers from the adverse effects of changes in economic conditions. Thus, an implicit wage contract can be viewed as an insurance contract, which is designed to shield the workers from business cycle fluctuations. Such contracts are characterized by an implicit understanding between the parties concerning the salary and working conditions (Bertrand 2004; Devereux and Hart 2007).
 
5
In a spot labour market, employment involves a sequential exchange of labour services for money (Azariadis 1975; Baily 1974; Gordon 1974). In such a market, (i) wage contracts involve a rather short time period and hence must be frequently re-negotiated and (ii) compensation is largely determined by the marginal revenue product of workers and the prevailing economic conditions (Devereux and Hart 2007). Peeters and den Reijer (2014) argue that productivity is the main determinant of wages in Germany.
 
6
See Devereux and Hart (2006).
 
7
Nickell and Quintini (2003) find that around 20% of the job stayers experienced nominal wage cuts annually during the 1990s. They also point to high wage flexibility of the job stayers in the UK. Fallick et al. (2016) also find that nominal wage rigidity has been lower in recent years than in earlier decades in the US. Snell et al. (2018) argue that elasticity of real wages with respect to business cycle is large and significant in upswing for incumbent workers in Germany.
 
8
Instead of reproducing the entire Beaurdy and DiNirado model in this section, we only describe the main elements of the model and use their results to derive some testable hypotheses.
 
9
Using the Panel Study of Income Dynamics (PSID) and the Current Population Survey (CPS) data from the US, Beaudry and DiNardo (1991) find empirical support for their model. The empirical work of Grant (2003), which relies on the National Longitudinal Survey (NLS) data, also provides a strong support for Beaudry and DiNardo’s key predictions.
 
10
For simplicity, the agents (i.e., firms and households) are assumed to have an identical discount rate and the probability of death (See Beaudry and DiNardo 1991).
 
11
Labour market segmentation in Germany can be attributed to a number of factors. For example, the barriers among enterprises/industries/sectors (Deutschmann 1981; Garz 2013). Labour market segmentation can also be observed between the natives and immigrants in some occupations (Constant and Massey 2005). Other factors that contribute to labour market segmentation include (i) the region of origin (Grünert and Lutz 1995; Felbo-Kolding et al. 2019) and job classifications (e.g., standard versus non-standard employment as indicated by Garz 2013). The division of labour and barriers between segments not only make external job mobility costly but also increase earning disparity.
 
12
Using the same dataset, Sommerfeld (2013) consider the issue of performance pay in Germany.
 
13
An important advantage of panel data collected from GSOEP is that we can distinguish among the job stayers, internal movers and external movers.
 
14
Following Ammermuller et al. (2010), we use a one year lag of the unemployment change variable, Δut-1.
 
15
Although the GSOEP East started in 1990, no information on worker employment is 1990 and 1991 is available. Accordingly, the data for East Germany used in this paper cover the 1992–2009 period.
 
16
A parallel to the West-East wage gap in Germany can be observed in the US labour market, where even with similar educational attainment and work experience, on average, immigrants earn lower wages than natives. However, there is evidence that the wage gap between immigrants and natives falls over time in the US labour market (Chiswick 1978; Borjas 1985; LaLonde and Topel 1992). The decrease in the wage gap can be attributed to the flexibility of labour market institutions in the US, where immigrants are able to earn higher wages by accumulating on-the-job human capital and through job search (Lessem and Sanders 2013). Furthermore, using the population survey data from 1979 and 1989, Trejo (2020) finds that, compared to other workers in the US, a significant proportion of this wage gap can be attributed to relatively lower educational attainment by Mexican Americans.
 
17
Stüber (2017), among others, highlighted the importance of job movement in wage flexibility studies. Stüber argued that failure to control for cyclical job movement could lead to spurious wage flexibility. Empirical assessment of wage flexibility requires an approach that identifies job up- and downgrading. Hence, categorisation of the respondents into job stayers, internal and external movers is necessary to control job movement.
 
18
Bils (1985) and Shin (1994) note that wage flexibility is especially pronounced among job movers in the US, which is like the situation in West Germany, where job movers enjoy wage gains in boom periods but suffer from wage losses in recessionary periods. However, Bowlus (1995), Shin (1994), Solon et al. (1994), and Shin and Shin (2008) also found substantial wage flexibility for job stayers in the US, which implies that a compensating differential model in more relevant in the American labour market.
 
19
Because of the core-periphery segmentation of the labour force in Germany (Cornelißen and Hübler 2008; Garz 2013; Stüber 2017; Snell et al. 2018), the situation for women differs from that of men. A core work force (e.g., male workers in the West, with implicit contracts) is protected from wage cuts, internal demotions and layoffs. On the other hand, the peripheral work force (e.g., female workers in the East) serves as a buffer that helps to provide wage flexibility in the event of adverse economic shocks. The peripheral work force in Germany faces wage cuts, internal demotion and higher level of job insecurity. Garz (2013) report that the share of female employees in the secondary sector increased by nearly 5 percentage points over the 2001–2005 period. In the post- (labour market) reform period, the secondary sector appears to provide wage flexibility to a greater extent. In overall terms, the secondary sector is characterized by non-standard jobs, which are mostly occupied by female workers who are relatively poorly paid. Such jobs are unstable even in the internal labour market. To reduce the chances of job loss, female workers tend to prefer internal demotion over external job movement. Thus, internal job movement has a negative impact on the female wage growth, especially in the bust periods (−2.87) in the West. This effect is more pronounced (−5.269) in the East. The results presented in Table 4 exhibit the segmented market and periphery working conditions for females and workers in East Germany.
 
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Metadata
Title
Job Movement and Real Wage Flexibility in Eastern and Western Parts of Germany
Authors
Fei Peng
Sajid Anwar
Lili Kang
Publication date
03-07-2020
Publisher
Springer US
Published in
Journal of Economics and Finance / Issue 4/2020
Print ISSN: 1055-0925
Electronic ISSN: 1938-9744
DOI
https://doi.org/10.1007/s12197-020-09516-6

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