The Structure of the Permanent Job Wage Premium: Evidence from Europe

• Published date: 01 January 2016
• DOI: http://doi.org/10.1111/irel.12129
• Author: Lawrence M. Kahn
• Date: 01 January 2016

The Structure of the Permanent Job Wage

Premium: Evidence from Europe*

LAWRENCE M. KAHN

Using individual longitudinal European Community Household Panel data for

thirteen countries during 1995–2001 and fixed-effects models, I find for men, the

permanent job wage premium is higher for younger workers and those who were

noncitizens or foreign born; for women, the premium is higher for young work-

ers, short-tenure workers, and those who were noncitizens or foreign born. Thus,

the gain to permanent employment is higher for those with less experience in the

domestic labor market.

Introduction

A considerable volume of economic research has been devoted over the last

two decades to explaining and suggesting remedies for the stubbornly high

unemployment rates in a number of European countries. Among the suggested

policy remedies for reducing joblessness is the relaxation of systems of

employment protection by allowing firms greater freedom to create temporary

jobs. Such dual employment systems produce barriers into the protected, per-

manent job sector, because firms may be reluctant to create permanent jobs in

the presence of high firing costs. Moreover, the bargaining power of insiders

in the protected sector is likely to produce a pay gap relative to those in tem-

porary jobs, because the firm must pay firing costs if it decides to discharge

workers (Blanchard and Landier 2002; Boeri 2011; Booth, Francesconi, and

Frank 2002; Kahn 2007, 2012; Stancanelli 2002). Also, previous research has

found that the young, immigrants, and women are disproportionately concen-

trated in temporary jobs, which are sometimes seen as part of a process lead-

ing to labor-market dualism, due to the lower pay in temporary jobs and

barriers to entering permanent jobs (Kahn 2007).

While previous research on temporary and permanent employment outcomes

treats the temporary sector in the aggregate, some workers may still accumulate

*The author’saffiliation is Cornell University, Ithaca, New York. Email: lmk12@cornell.edu.

This paper uses European Community Household Panel data (Users Database, waves 1-8, version of

December 2003), supplied courtesy of the European Commission, Eurostat. Data are obtainable by applica-

tion to Eurostat, which has no responsibility for the results and conclusions of this paper.

INDUSTRIAL RELATIONS, Vol. 55, No. 1 (January 2016). ©2015 Regents of the University of California

Published by Wiley Periodicals, Inc., 350 Main Street, Malden, MA 02148, USA, and 9600 Garsington

Road, Oxford, OX4 2DQ, UK.

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training and valuable experience in temporary jobs, even if this is less extensive

than in permanent jobs. If so, then temporary jobs may themselves represent

less of a dead end in the labor market than otherwise imagined. Moreover, we

might expect different types of workers to experience different gains upon

obtaining a permanent job, depending on their experience while employed in a

temporary job. This heterogeneity in the wage gains for permanent employment

implies that the dual employment system can indirectly affect wage inequality

even beyond the average pay gap between permanent and temporary jobs.

In this paper, I use European Community Household Panel data (ECHP) to

investigate the premium workers command in permanent jobs relative to tem-

porary jobs across thirteen European countries: Austria, Belgium, Denmark,

Finland, France, Germany, Greece, Ireland, Italy, the Netherlands, Portugal,

Spain, and the United Kingdom. A basic framework to understand this issue

comes from Blanchard and Landier’s (2002) research, in which it is assumed

that firms start workers in temporary jobs. Then as the expiration of the job

approaches, the firm must decide whether to promote the worker into a perma-

nent job or whether to start over with a new match in a temporary job. In the

presence of higher firing costs for permanent jobs relative to temporary jobs,

firms will be reluctant to make such promotions unless warranted by the eco-

nomic circumstances of the firm. Once promoted, workers are able to appropri-

ate some of the firing costs, since these raise the value of continuing the

employment match once the worker is promoted. Thus, an important determi-

nant of the wage premium in a permanent job is the value of the match rela-

tive to breaking it up and starting over with a temporary employee.

I hypothesize that before being promoted into a permanent job, inexperienced

workers must receive training in the temporary job for which they have been

hired. In equilibrium, their starting wages in the temporary job will be below the

level of starting wages for experienced, trained workers starting a temporary job.

After they have been trained, the firm may receive a productivity shock, which

will determine whether it will promote the workers. By this time, experienced

and inexperienced workers will each be trained and thus will be treated similarly

by the firm. Because of the wage discount at the beginning of the temporary job

for less experienced workers, the wage gain conditional on promotion to a per-

manent job will be greater for them. We observe a higher incidence of permanent

employment among more experienced workers because they have had more

opportunities to be in firms that receive a favorable productivity shock, and the

exit probability from permanent jobs is relatively low.

I test the prediction that the permanent job wage premium falls as labor-

market experience rises, using longitudinal data from the ECHP. Taking into

account individual fixed effects, I find that among men the wage premium for

a permanent versus temporary job is indeed higher for younger workers and

150 / LAWRENCE M. KAHN