New skills are the high road to higher salaries, study finds

A new study by Jeroma Adda (Economics Department) shows that skill acquisition is the main contributor to higher salaries for employees, with the magnitude of the effect varying according to the type of skill and the employee’s career stage. While workers can acquire skills on the job, those who receive training before entering the labor market generally receive higher wages and are less likely to be unemployed.

People make a series of choices during their careers: whether they want to receive an education before starting work, which job they accept, or whether they should quit their current job. Each decision impacts earnings that can unfold over many years, and to understand its effects requires examining not only immediate returns, but also longer-term outcomes. To this end, Professor Adda and Christian Dustmann (University College London), in an upcoming paper in the Political Economy Magazine, estimates a mathematical model to understand the determinants of wage growth. Using comprehensive data on German men’s labor market outcomes over several decades, they find that workers’ skill levels, their accumulation of human capital, and job change across sectors and companies all contribute significantly positively to earnings.

To unravel their findings, it is first important to understand that labor market research divides the tasks that workers perform into two categories: routine manual (RM) tasks, which follow well-defined and repetitive procedures that require a modest amount of training; and cognitive abstract (CA) tasks, which require more technical and creative abilities. To estimate returns for each type of skill, the authors classify each occupation according to the predominant type of task. Thus, they are able to go beyond the differentiation of returns for different jobs and estimate returns for job-specific work experience. Their results indicate that the accumulation of RM and CA skills over an individual’s career is the main driver of wage growth. RM skills contribute more significantly to increases in workers’ productivity and income in the early years of their careers, but once a set of basic skills is acquired, their contribution to wage growth is reduced to zero. On the other hand, CA skills take longer to build, so they take longer to impact earnings, but have a longer-lasting effect, throughout the person’s career. These differential returns translate into CA industry workers earning higher wages on average than those in predominantly RM industries.

Such skills can also be built through a training period that takes place before entering the job market, and the authors estimate the impact of undertaking such a program. Compared to untrained workers, educated individuals can gain more CA experience, which improves other aspects of job matching in addition to direct pay benefits: educated workers are less likely to be unemployed and get competitive job opportunities at a higher rate. This increased sustainability in the labor market offers the opportunity to gain more experience, which in turn yields more returns. Even taking into account the difference in innate competence of employees, the return on training in apprenticeships remains positive and significant, both for the individual and for society. It is essential, according to the authors, to compare the outcomes of skilled and untrained workers throughout their careers, as focusing on immediate returns can lead to underestimation of the true benefits.

The authors also find that worker mobility in the labor market contributes to higher salaries. Switching between different jobs generates a significant increase in income, but this is concentrated in the early years of the worker’s career, namely the first job shift. While this change brings large gains, they are rapidly diminishing and additional mobility does not seem to contribute to greater returns. However, the authors also note the existence of lock-in effects: workers are initially assigned to a sector for which they are not best suited, but the accumulation of experience specific to that sector discourages them from transferring. move to jobs in other sectors.

The authors thus provide a comprehensive overview of the variables influencing labor market outcomes, and their conclusions on the impact of education, experience and mobility have important practical implications. For employees, we learn the longer-term benefits of acquiring CA skills and the significant returns individuals can get from training, which may not materialize immediately but has a significant impact later in their careers. For policymakers, we learn that returning to experience can lead to inefficiency by locking workers into specific sectors, which can have a disproportionate impact on workers entering the labor market during periods of limited choice, such as recessions.

Provided by Bocconi University