Trade integration and the skill premium: Evidence from a transition economy

Relatively little attention has been given to documenting the evolution of the skill premium (defined as the ratio of the wages of skilled to unskilled workers) in the economies of Central and Eastern Europe, most likely due to the lack of readily available data. In this article, we first uncover the patterns of the skill premium for a subset of transition economies, and then we turn our focus to the case of Slovenia, where we highlight the negative correlation between the skill premium and international trade after 2000, when Slovenia’s trade with its largest partner, the European Union (EU), increased and intensified. To conduct our analysis, we develop an applied general equilibrium model, and combining a Social Accounting Matrix, Household Budget Surveys, and the EU KLEMS Growth and Productivity Accounts database, we calibrate it to match the Slovenian data. We next perform a numerical experiment that consists of Slovenia joining the EU and quantify the impact of this trade integration process on the skill premium. We also conduct additional sensitivity experiments to quantify how our model’s predictions vary with some of the model’s parameters, including the role of sectoral productivity growth. We find that trade liberalization leads to a fall in the skill premium of roughly up to 4.5%. This implies that our model is able to account for approximately 46% of the actual decrease in the skill premium observed in Slovenia for our period of analysis.