Unobserved Heterogeneity and Inter-Industry Wage Premiums

Melbourne Institute Working Paper No. 04/99

Date: February 1999


Mark N. Harris
Joanne Loundes


In the majority of applied work on the determinants of individual wages, the existence of significant industry wage differentials is typically used as evidence against competitive wage theories. The contention of this paper is that such inter-industry wage premiums are generally a manifestation of unobserved individual heterogeneity. We control for individual heterogeneity by utilising a sample selection panel model, that is, a model that allows for endogenous employment outcomes whilst controlling for unobserved heterogeneity. Estimation of such a selectivity-corrected wage equation using panel data is more computationally demanding than the standard Heckman (1979) cross-section case. As a consequence, there are few empirical examples in the literature.

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