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Climbing ladders

Wage growth and rising wage inequality are largely explained by differences in climbing career ladders

November 7, 2018


Douglas Clement Managing Editor (former)
Climbing Ladders
Ciranno Marcon Soares/Minneapolis Fed

“From the mail room to the board room” is a cliché of dramatic professional success, usually applied to corporate titans like Andrew Carnegie, who grew up in poverty, or literary counterparts like Horatio Alger. It suggests another metaphor: climbing the ladder—rising from the lowest ranks to the highest echelons through hard work, talent, and sheer determination.

A new study shows that how far and fast workers climb career ladders explains much of wage growth and almost all of the rise in wage inequality during working life. Pay differences among employers, in contrast, contribute little to these wage dynamics. In other words, job hopping from one company to another for a pay bump—climbing job ladders—is less important for wage growth and changes in wage dispersion than taking on higher levels of job responsibility, complexity, and independence—climbing career ladders.

Career ladders explain much of wage growth and almost all of the rise in wage inequality during working life. Pay differences among employers, in contrast, contribute little.

Pinpointing this key determinant of wage dynamics clarifies how pay changes over business cycles and relative to technological, demographic, or policy changes. The research shows, for instance, that the rising gap between male and female pay mirrors career ladder dynamics. It also finds that chance and education both play a role in career advances, or lack thereof.

Overall, write Christian Bayer and Moritz Kuhn in “Which Ladder to Climb?”, published by the Federal Reserve Bank of Minneapolis’ Opportunity & Inclusive Growth Institute, the central role of career ladders “suggests that wage dynamics are shaped by the organization of production, which itself likely depends on technology, the skill set of the workforce, and labor market institutions.” And that means that any effort to reduce wage inequality must address technological growth, worker development, and structures that shape employment.

Three wage drivers

The heart of the economists’ analysis is their focus on three distinct drivers of wage growth: individual abilities, job characteristics, and employer differences. Put differently, something about the person, the job, or the plant could potentially explain why pay is what it is.

To gauge the explanatory power of each factor, they analyze millions of wage observations from high-quality data drawn from German administrative surveys between 2006 and 2014. Six million distinct observations of employees are linked to 100,000 plants (organizational production units of employers); the surveys cover public and private employers in manufacturing and service sectors, and are broadly representative of about half of the German workforce.

Bayer and Kuhn use regression analysis to isolate the distinct contributions of individual characteristics, job elements, or plant components to wage growth from age 25 to age 55 and to changes in dispersion of worker wages.

The economists find that differences among employers shape wage levels when a person first joins the labor force; some employers pay more than others. But after that, it’s how jobs change in complexity, responsibility, and operational independence that explains half of wage growth and almost all of the rising wage inequality during careers. Whether a particular job has high or low levels of responsibility, complexity, and autonomy sets its hierarchical status and largely determines its wage rate. “Wage differences across hierarchies are large,” they note. “Consequently, differences in progression on the career ladder lead to substantial wage differences.”

Indeed, two-thirds of the total increase in wage inequality comes from workers increasingly diverging in jobs they perform. “As [is true] for average wages, the hierarchy level of the job is the main driving variable” behind increased pay inequality. The co-movement of job characteristics with a worker’s education and plants accounts for the remaining third of the rise in wage dispersion.

Gender gap

This has a particularly acute and damaging impact on women. In Germany, hourly wages for women age 25 are roughly 93 percent of wages for men age 25. The gap is far larger by age 50, when women are paid less than 70 percent of the male wage. The growing gap is largely explained by differing career ladders. Initially, both genders have almost identical hierarchy paths, but “after age 30, the career progression of females comes to a halt, while males keep on climbing the career ladder for an additional 15 to 20 years,” the economists write. “The result is an increasing wage difference.” (See figure.)

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Half of this is due to women stalling on the ladder—hitting the glass ceiling—but another large part is due to different job mobility between employers. Men tend to move to companies that pay better, while women do the opposite. It’s a diverging pattern that begins after the first 10 years in the labor market, “whereby females end up in lower levels of hierarchy, at worse-paying plants, and with less stable jobs.”

Wage inequality within each gender is also strong. The paper looks at each gender separately and finds that relative progression up career ladders explains half of wage growth and almost all of the increase in wage dispersion.

Going up?

So what explains who will climb the ladder? The economists explore two factors: human capital investment broadly defined and a particular source of luck: one’s co-workers.

Initially, both genders have almost identical hierarchy paths, but “after age 30, the career progression of females comes to a halt, while males keep on climbing.”

Formal education and on-the-job experience are types of human capital investment that they find have a positive effect on moving up the career ladder and, therefore, on earnings. Of particular note, education is positively correlated with higher positions on the job ladder. About 60 percent of workers with secondary education are on the lowest two rungs of their hierarchy scale, and 60 percent of college-educated workers are at the highest two levels. The effect holds after controlling for other forms of human capital investment.

As for luck, Bayer and Kuhn look at co-worker characteristics. With whom someone works is “largely beyond a worker’s control,” they write and, therefore, presents a potential form of luck in a worker’s career progression. Their analysis shows that having more experience than one’s peers (same education and tenure) is a strong determinant of hierarchical rise; the economists call this the “silverback effect,” referring to a dominant gorilla. “Being the silverback increases the hierarchy wage by roughly 10%.” (It really is a jungle out there.)

Are these results applicable only to Germany, with its particular set of workers, labor institutions, and employers? Examination of data from the U.S. national compensation survey suggests that the German findings may well apply to the U.S. labor market too. “If anything,” write the economists, “climbing the career ladder is more important in the United States than in Germany.”