Wage Setting in Young Firms

Johannes F. Schmieder, Columbia University

Classic economic theory predicts that wages reflect marginal productivity of workers. Contrary to this notion, I show that wages in newly founded establishments are 10 percent higher than wages in older establishments. I estimate the age - wage relationship using a unique linked employer-employee panel dataset that follows workers and firms over time. The effect of establishment age on wage remains strongly negative after controlling for a wealth of detailed establishment and worker characteristics. Fixed effects techniques show that wage levels within establishments are declining as establishments age. Analyzing workers that switch between old and young firms shows that the effect is not driven by unobserved worker characteristics. Contrary to the theory that the wage difference is driven by longer contracts and therefore higher deferred compensation in older firms, young firms also exhibit higher wage growth. The relationship is partly explained by the higher job loss risk in young establishments.