Firm Wage Differentials in Imperfect Labour Markets: The Role of Market Power and Industrial Relations in Rent Splitting between Workers and Firms

Project: Research

Project participants

  • Hirsch, Boris (Project manager, academic)
  • Mueller, Steffen (Project manager, academic)


Studies are legion that find that equally productive workers are paid different wages by different employers. Obviously, such persistent firm wage differentials are at odds with a competitive labour market where firms take the market wage as given and act as wage takers. Instead, they point at an imperfect labour market where significant employment rents accrue to both employers and workers and both parties possess some market power in the wage formation process. Against this backdrop, the main purpose of this proposal is to grasp a firmer understanding of how employment rents are split between workers and employers in imperfect labour markets and how labour market institutions, such as unions and works councils, influence the distribution of rents. In that it not only promises new insights into the wage formation process and the likely consequences of important labour market trends like falling unionisation and worker codetermination, but also promises to inform important public policy debates, such as which rights should be granted to organised labour.Specifically, the project will make four contributions. First, existing studies that investigate rent sharing, i.e. the impact of firm performance on workers’ wages, lack credible exogenous variation in firm performance to identify the causal rent-sharing effect. We will use the Official Firm Data for Germany (“Amtliche Firmendaten für Deutschland”; AFiD) that contain information on firms’ energy costs over time and thus allows us to identify the causal rent-sharing effect. Second, most rent-sharing papers miss information on working hours, though rent sharing may not only run through monthly or daily wages but also through working hours. Merging the AFiD data to the German Structure of Earnings Survey (“Verdienststrukturerhebung”) allows us to gauge the bias in previous studies that did not use firm performance and wage indicators on an hourly basis. These rich data further enable us to study differences in rent sharing among firms covered by collective bargaining agreements and uncovered firms. Third, the existing rent-sharing literature employs firm performance and wage measures that lack theoretical justification. Using the linked employer-employee data of the Institute for Employment Research (LIAB) allows us to construct such adequate measures. In particular, the data permit us to adequately calculate firm wage premia based on an approach that decomposes wages into worker-specific and employer-specific components (Abowd, Kramarz, Margolis 1999). We are further able to study whether rent sharing depends on the presence of unions or works councils, and to shed light on the likely causes of the widening of firm wage premia since the 1990s. Fourth, the LIAB data also permits us to undertake the first investigation into the determinants of firms’ monopsony power and whether firm wage premia vary with firms’ market power and their industrial relations regime.