Skill sorting, inter-industry skill wage premium, and production chains: evidence from India 1999-2000

This paper proposes a mechanism that links industry’s technological characteristics (i.e. quality of non-labor inputs, which is proxied by the length of industry production chains), industry-specific skill wage premium, and skill sorting across industries. It is hypothesized that high-skilled workers are sorted into industries where they can receive a higher skill wage premium, by working with better quality non-labor input. The quality of non-labor inputs is assumed to be worse in industries with longer production chains due to the increased involvement of low-skilled labor and poor infrastructure over the sequential production. By examining Indian wage and employment data for 1999-2000, empirical evidence to support this mechanism can be obtained: First, the skill wage premium is lower [higher] in industries with longer [shorter] production chains. Second, the skill wage premium is lower [higher] in industries with a higher [lower] proportion of low-skilled workers producing inputs outside their own industry. Third, the proportion of high-skilled workers is larger in industries with shorter production chains and lower ratio of low-skilled labor involved, i.e., a skill sorting trend can be observed.

Skill sorting and production chains : evidence from India

This study proposes a new mechanism that explains skill-sorting patterns and skill wage differentials across industries based on the length of the industry's production chain. A simple simultaneous production model shows that when the quality of intermediate inputs deteriorates rapidly along the production chains, high-skilled individuals choose to work in industries with shorter production chains because of higher returns to skill. I empirically confirm this skill-sorting pattern and these inter-industry skill wage differentials in India, where the quality of intermediate inputs is likely to degrade rapidly because of the high number of unskilled laborers, poor infrastructure, and less-advantaged technology. The results remain robust even when considering selection bias, alternative reasons for inter-industry skill wage differentials, and a different period. The results of this study have important implications when considering countries' industrial development patterns.