Real Wages and the Business Cycle:Accounting for Worker and Firm Heterogeneity

Using a longitudinal matched employer-employee data set for Portugal over the 1986-2005period, this study analyzes the heterogeneity in wages responses to aggregate labor marketconditions for newly hired workers and existing workers. Accounting for both worker and firmheterogeneity, the data support the hypothesis that entry wages are much more procyclicalthan current wages. A one-point increase in the unemployment rate decreases wages ofnewly hired male workers by around 2.8% and by just 1.4% for workers in continuing jobs.Since we estimate the fixed effects, we were able to show that unobserved heterogeneityplays a non-trivial role in the cyclicality of wages. In particular, worker fixed effects of newhires and separating workers behave countercyclically, whereas firm fixed effects exhibit aprocyclical pattern. Finally, the results reveal, for all workers, a wage-productivity elasticity of1.2, slightly above the one-for-one response predicted by the Mortensen-Pissarides model....