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Growth in Euro Area Labour Quality


Growth in Euro Area Labour Quality. Guido Schwerdt (European University Institute) ... Composition of euro area work force changes over time: ... – PowerPoint PPT presentation

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Title: Growth in Euro Area Labour Quality

Growth in Euro Area Labour Quality
Guido Schwerdt (European University
Institute) and Jarkko Turunen (ECB)
OECD Workshop on Productivity Analysis and
Measurement Bern, 17 October 2006
  • Composition of euro area work force changes over
  • Share of workers with higher education tends to
  • Workers with different education levels, work
    experience and skills move in an out of
  • Raw measures of labour input such as total hours
    worked or employment provide biased measures of
    actual labour input
  • Adjusting for labour quality is important for
    understanding sources of labour productivity
    growth and fluctuations in labour input over the
    business cycle
  • Evidence suggests that positive labour quality
    growth contributes significantly to growth in
    labour productivity (Jorgensen, 2004)

Significant increase in the share of workers with
university level education in the euro area
Figure 1. Total hours worked by education
Sources Labour Force Survey and authors
calculations. Note Low refers to those with
lower secondary education or less, medium to
those with upper secondary education and high to
those with tertiary education.
Related questions
  • Has there been a shift in the composition towards
    workers with lower skills in the 1990s?
  • What drives sustained decline in euro area labour
    productivity growth?
  • How should economic policies be designed to
    further improve knowledge and innovation
    (mid-term review of the Lisbon agenda)

  • Literature
  • How do we measure labour quality?
  • Main results
  • Index of labour quality for the euro area and
    some euro area countries
  • Robustness to alternative assumptions
  • Changes in composition over the business cycle?
  • Decomposition of labour productivity growth the
    case of disappearing TFP growth!

  • Studies on the US provide methodological
  • Bureau of Labor Statistics (BLS) (1993), Ho and
    Jorgenson (1999), Aaronson and Sullivan (2001)
  • Few studies on euro area countries
  • Jorgenson (2004) for France, Germany and Italy
  • Brandolini and Cipollone (2001) for Italy, Card
    and Freeman (2004) for Germany, Melka and Nayman
    (2004) for France
  • OMahony and Van Ark (2004) provide sectoral
    evidence for France, Germany and the Netherlands
  • No evidence for the euro area as a whole, country
    evidence too scattered to draw firm euro area

Measuring labour quality an overview
  • Task construct an estimate of labour quality
    adjusted labour input in the euro area
  • Combining information from microdata of
    individuals with official aggregate data
  • Step 1 Take data of individual wages and
    personal characteristics from the European
    Community Household Panel (ECHP) and construct
    weights for worker groups (by age, sex, education
    and country) using wage regressions
  • Step 2 Combine weights with data of hours worked
    for each worker group from the European Labour
    Force Survey (LFS)
  • Alternative estimates using entirely microdata
    based regression method in Aaronson and Sullivan

Method, step 1 Weights
  • Dependent variable is individual real hourly wage
  • Regressors are dummy variables for age and
    education, equation is estimated using weighted
    OLS separately for males and females and for each
    country (30 times 12 worker-country groups)
  • Predicted wages for each worker-country group are
    used to construct weights (the share of worker
    group i of total labour compensation)

Method, step 2 Quality index
  • Growth in total labour input is constructed as
    the weighted growth in total hours for worker
    group i
  • Growth in labour quality is defined as the
    difference between growth in total labour input
    and unweighted growth in hours worked

  • Micro data from ECHP
  • Longitudinal information on wages and other
    individual characteristics (e.g. education, age,
  • All euro area countries for the 1994-2001 time
  • Aggregate data from European LFS
  • Hours worked and employment for worker groups
    cross-classified by education, age, gender and
    country (also sectors and full/part-time status)
  • All euro area countries for (currently) the
    1983-2004 time period
  • Note Breakdown by education only available from
    1992 onwards additional information from the
    Luxembourg Income Study (LIS) and the German
    Socio-Economic Panel (GSOEP) is used

  • Common to all studies of labour quality
  • Individual wages are assumed to accurately
    reflect productivity differences union
    bargaining, search frictions, discrimination etc.
    suggest that this assumptions is likely to be
  • Proxies for measuring composition are imperfect
    e.g. work experience is inaccurately proxied by
    age, no measure of quality of education exists
  • Specific to our study
  • Data for detailed classification pre-1992 is
    partly intrapolated
  • Assume fixed weights, i.e. that returns to
    individual characteristics do not change over
    time evidence for Europe suggest that relative
    wages are rigid (e.g. Brunello and Lauer, 2004)
  • Measurement error in survey data?

Continuous increase in euro area labour quality
Figure 2. Labour quality growth (index 1983 100)
Sources Authors calculations.
Changes in quality growth over time and
significant impact on quality adjusted labour
Figure 3. Labour quality adjusted labour
input (average annual growth rate)
Sources Authors calculations.
Validation comparing country results with
existing estimates
Figure 4. Comparing country estimates (average
annual growth rate)
Sources Authors calculations and Jorgensen
  • Validation using country estimates supports
    robustness of our calculation for the euro area
  • Alternative data and methods available for a
    shorter time period
  • Robust to including additional determinants of
    labour quality (sector and part/full-time
    status) 1993-2004 average annual growth goes
    from 0.61 to 0.65
  • Robust to accounting for changing weights using
    the regression approach 1995-2001 average annual
    growth goes from 0.47 to 0.44

Changes in composition over the business cycle
are expected to be countercyclical
  • Previous evidence suggests that labour quality
    growth is likely to be counter-cyclical (Aaronson
    and Sullivan, 2001 and Solon et al. 1994)
  • Down-skilling in upturns as the share of
    workers with lower skills increases firms lower
    skill requirements, and increased likelihood of
    finding a job and possibly higher wages encourage
    lower skilled workers to enter the labour market
  • Up-skilling in downturns (in reverse)

Confounding factors and data weaknesses
  • Business cycle effects may be confounded by the
    impact of changing trends
  • Labour market reforms in the late 1990s may have
    resulted in increased participation of lower
    skilled workers
  • Demographics ageing of the baby boom generation
  • Measure of skills may not be accurate enough to
    fully capture cyclical effects
  • Unobserved characteristics (e.g. motivation)
    matter, but are likely to be correlated with

Some evidence of lagged countercyclicality in
euro area labour quality
Figure 5. Trend/cycle decomposition (log levels
and deviations from trend)
Sources Authors calculations. Note The trend
and cycle have been extracted using a band-pass
filter (with cycle length between 2 and 8 years).
Education and work experience the main
determinants of growth in human capital
Figure 6. Main determinants of labour quality
growth (annual growth rates)
Sources Authors calculations.
Implications for measuring total factor
  • Best practice in productivity measurement
    suggests taking into account labour quality
    adjustment (OECD, 2001)
  • Decomposing labour productivity (measured per
    hours worked) growth into
  • Capital deepening (growth in capital services per
    hours worked)
  • Labour quality growth
  • TFP growth (residual)
  • Previous decompositions of euro area labour
    productivity have not considered quality
    adjustment, thus overestimating TFP growth (e.g.
    ECB, 2004, Vijselaar and Albers, 2004)

The case of the disappearing TFP growth!
Figure 7. Decomposition of labour productivity
growth (averages of annual growth)
Sources ECB calculations. Except for the
estimate of labour quality growth, data are from
the Groningen Growth and Development Centre.
Other (possible) applications
  • Done
  • Quality-adjusted measure of wage growth lower
    growth in quality adjusted real wages, weak
  • Quality of the available labour force quality
    growth of the unemployed higher than for the
    employed in the late 1990s
  • Further research
  • Forecasts of labour quality growth looking
    forward, population ageing may lower the
    contribution of human capital to growth
  • Reconsider previous work using TFP estimates for
    the euro area

Summary and conclusions
  • A robust estimate of labour quality growth in the
    euro area
  • Positive labour quality growth in the past 20
  • Some (weak) evidence of changes in composition
    over the business cycle, especially in the 1990s
    down-skilling in upturns and up-skilling in
  • Implications for productivity growth
  • Approximately 1/3 of labour productivity growth
    due to improvements in labour quality
  • Accounting for labour quality lowers estimates of
    euro area TFP growth