Workplace Heterogeneity and the Rise of West German Wage Inequality

We study the role of establishment-specific wage premiums in generating recent increases in West German wage inequality. Models with additive fixed effects for workers and establishments are fit in four distinct time intervals spanning the period 1985-2009. Unlike standard wage models, specifications with both worker and plant-level heterogeneity components can explain the vast majority of the rise in wage inequality. Our estimates suggest that the increasing variability of West German wages results from a combination of rising heterogeneity between workers, rising variability in the wage premiums at different establishments, and increasing assortativeness in the matching of workers to plants. We use the models to decompose changes in wage gaps between different education levels, occupations, and industries, and in all three cases find a growing contribution of plant heterogeneity and rising assortativeness between workers and establishments.