Are higher wages in cities driven by worker effects, by firm effects, or by stronger assortative matching? Using rich administrative data from Germany, we decompose the wage structure into person and establishment-effects over the 1990-2010 period. This allows us to decompose the variation of wages across space, and the evolution of spatial wage inequality over time. We find that better worker-firm matching in denser local labor markets is a key mechanism behind the urban wage premium. This holds for aggregate local labor markets, and even more so within narrowly defined occupation- and industry-specific market segments. Quantitatively, matching adds more to the understanding of the observed trend in spatial wage inequality than all firm-based explanations, and almost as much as all worker-based sources of higher urban wages taken together.
Professor of Economics, Düsseldorf Institute for Competition Economics (DICE)
Professor at the Düsseldorf Institute for Competition Economics (DICE) at Heinrich-Heine University, a research fellow at CEPR, CESifo, IAB, and IZA, editor of the Journal of Regional Science, and chairman of the field committee for regional economics at the German Economics Association.