Firm characteristics, labor sorting, and wages

We analyze in a simple model the consequences of efficiency heterogeneity at the firm level for the sorting of workers with different skills into firms with different characteristics. We show that more efficient firms tend to produce higher quality output in equilibrium, which then translates into higher relative demand of education and unmeasured skills. The model provides an integrated explanation within a competitive framework for the observed correlations between several establishment characteristics (size, employees’ average education, capital/labor ratio, and remoteness of selling markets) and average wages. We test the implications of the model using Spanish employer-employee matched data that allow to simultaneously control for establishment and worker characteristics. We find that average education in the establishment is increasing in the remoteness of its main market. Establishment’s size, remoteness of main market, and co-workers’ average education have significant, robust and quantitatively important positive joint effects on wages. The national-market orientation effects (with respect to local-market orientation) on labor composition and wages are at least as important as the international-market effects (with respect to national-market orientation). All wage premia are non-decreasing on worker education and most of them are strictly increasing, suggesting that unmeasured skills are relatively more important for high-education workers.