wage structure

8/14/2019 Wage Structure

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The Impact of Corporate Restructuring on Wage Distributions*

John C. Dencker

[email protected]

217-333-2383

Chichun Fang

[email protected]

217-265-0954

School of Labor and Employment Relations

University of Illinois at Urbana-Champaign

504 E. Armory AvenueChampaign, IL 61820

January 14, 2009


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ABSTRACT

We examine the dynamics of wage patterns over a twenty-five year time frame using personnel

records and corporate documents from a large U.S. firm. We focus on the role of the firmand

its HRM systems, practices, and policiesin shaping wage patterns and wage inequality. We

find significant cohort effect, in which entry wages differ each year depending on the market

conditions, and tenure effect, in which employees follow similar wage growth patterns and are

shielded from the fluctuation of economic cycle once they are hired. The firms ability to control

wage inequality was undermined through corporate restructuring and market pressure in late

1980s. After restructuring, the firm became more inclined to reward high performance workers,

and reduced entry-level wages for a number of workers. We conclude that the firms HRM

system and its internal labor market mechanism governed the wage patterns and limited wage

inequality considerably prior to the onset of restructuring. However, the firms institutional

power on wage determination was reduced after corporate restructuring as the wage inequality

within the firm increased.


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INTRODUCTION

Recent sociological studies have explored various institutional determinants of wage outcomes,

including cross-occupational difference (Kalleberg and Mouw 2006; Kim and Sakamoto 2008),

the firms performance appraisal mechanism (Castilla 2008), and the opportunity structure of

discrimination within a firm (Petersen and Saporta 2004).

These results suggest the importance of institutions in wage dynamics. In this paper we

focus on another institutional factor, the role of the firms HRM system and compensation policy,

in changing wage patterns and limiting wage inequality. In the discussion of wage patterns and

distributions, the role of the firm should not be overlooked because wages are, after all, paid to

the employees by the firm. The firm decides employees entry wages upon hiring and how

wages are adjusted later in their careers. Moreover, the firm can decide how to allocate its

payroll budgets among employees through its compensation policies and potentially influence

wage inequality. We argue the firms compensation policies, accompanying with the impacts of

deregulation and corporate restructuring, plays a key role in the change of wage inequality.

We find significant cohort and tenure effects; employees entered the firm in different

years received different entry wages depending on market conditions, but the wage growth

patterns conditional on respective entering wages were very similar. The effects of firm

restructuring, however, varies by types of employees. For blue collar workers, the wage

distribution was more polarized after restructuring than before. For white collar clericals and

managers, the distribution shifted rightwards and became denser in the upper tail, indicating both


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THE FIRMS ROLE IN SHAPING WAGE DISTRIBUTION

While the increase of wage inequality in 1980s is studied early and a lot in labor economics

(Autor, Katz, and Kearney 2008; Autor, Katz, and Krueger 1998; Borjas and Ramey 1995; Card

and DiNardo 2002; Chay and Lee 2000; DiNardo, Fortin, and Lemieux 1996; Katz and Murphy

1992; Lemieux 2006; Murphy and Welch 1992), the role of the firm in contributing to such

increase is surprisingly understudied.

We argue that the firm, its human resource practices, and its compensation policies play

an important role in shaping the wage distribution. Studies show that human resource practices

modify the effect of technological changes on hourly workers (Fernandez 2001) and influence

the link between performance appraisal and pay structure (Castilla 2008). The firms own

compensation policy reflects its own internal labor market structure and will induce both cohort

and tenure effects in wage patterns (Baker, Gibbs, and Holmstrom 1994a; Baker, Gibbs, and

Holmstrom 1994b) and downward wage rigidity (Gibbs and Hendricks 2004; Harris and

Holmstrom 1982; Seltzer and Merrett 2000). Through its internal labor market, the firm can

provide employees job securities and opportunities for career development, and it also shields

employees from labor market fluctuations (Doeringer and Piore 1971; Osterman 1984; Srensen

and Kalleberg 1981).

Wage inequality within the firm can be limited through formal wage patterns and the

internal labor market as well. Since wages are attached to jobs under internal labor market and

career tournament (Lazear 1995; Lazear and Rosen 1981), the wage dispersion in a firm can be


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firm are guided by the job levels and tenure effect. The firms compensation policies hence play

the key role of shaping wage patterns and distributions and controlling wage inequality.

Corporate Restructuring

However, the effectiveness of internal labor market and the firms ability to limit wage

inequality can be weakened through corporate restructuring.

Mergers and hostile acquisitions that followed the deregulation in late-1970s and early-

1980s (Schleifer and Summers 1998) ignited the firms pursuit of organizational efficiency

(Useem 1996), which in turn led to restructuring, including reduction in forces (RIFs) and

changes in wage policies (Cappelli, Bassi, Katz, Knoke, Osterman, and Useem 1997; Cascio,

Young, and Morris 1997). Firm engaging in RIF undermined job security provided under

internal labor markets, and continuing employment were more influenced by market factors

(Cappelli 1992; Eriksson and Werwatz 2005; Lazear and Oyer 2004). Also, changing the

compensation scheme to a reward or performance based system made pay more variable than it

would have been in the previous seniority-based system (Cappelli et al. 1997; Mitchell 1989).

The firm will be more inclined to reward high performance employees (Cappelli et al. 1997;

Mitchell 1989; Zenger 1992). And hence, firm restructuring should lead to a more wide-spread

wage distribution and decreasing returns to seniority. All of these weaken the role of a firm in

shaping the wage distribution.

Corporate restructuring can limit the firms ability to reduce wage inequality. Wage


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the wages of low wage earners and increases the wages of high wage earners indicates the

reducing effectiveness of a firms internal labor market mechanism. The firms ability to control

wage inequality within the firm is hence undermined.

The firm that we study experienced several waves of restructuring. Two waves of

reduction in force (RIF) were undertaken. The first RIF tool place in early- to mid-1980s during

the time of hostile takeovers.1 The second RIF occurred in early 1990s following the regulatory

changes that limited takeovers. Between two waves of RIF, the firm had a hiring freeze and also

transitioned its performance management and compensation system, in which a seniority-based

pay scheme was changed to a performance-based one. The firm sought to make performance

goals more measurable and relevant, which pay decisions can be made upon. Additionally, the

firm destroyed the performance evaluation records once promotion and pay raise decisions were

made. The purpose of this was to make sure performance evaluation would not be biased by an

employees past performances, and hence, all promotions and pay raises would have to be re-

earned each year.

ORGANIZATIONAL SETTING, DATA, AND METHODS

Organizational Setting

The firm that we study is a Fortune 500 firm in energy sector. Like most other large firms

studied over the same period of the time (Baker, Gibbs, and Holmstrom 1994a), this firm also

had an internal labor market composed of hierarchically-ranked salary grade levels (SGLs) to


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not belong to a salary grade level. We use the terms white collar clericals, white collar

managers and blue collar workers to denote these three broad categories, respectively. An

employee hired as an hourly worker could be promoted to a white collar clerical later in the

career, so could a white collar clerical become a white collar manager. Neither the salary grade

level system nor job requirements attached to each level were significantly changed through the

time of study.

Employees in the firm that we study were paid relatively well. For those who were paid

by hours, hourly wages were two to three times higher than federal minimum wages throughout

the time our data. The average union coverage was not high; at most 10% blue collar workers

were covered by a labor union. Table 1 shows the descriptive statistics that summarize the

employee characteristics.

---Insert table 1 about here---

Data Set

Career records of 25% randomly sampled U.S. employees between 1969 and 1993 are provided

by the firm. We examine the change of wage patterns and distribution by three broad categories

of employees: blue-collared workers (who do not belong to any salary grade level), non-

exempted white collar clericals, and exempted white collar managers. Only employees hired

after 1969 are included in our analysis in order to avoid potential bias caused by left censoring

due to incomplete career information of employees hired before 1968 (Petersen 1995). We only


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employee. To transform the data into a yearly panel, we keep only the last record for each

employee in each year. If an employee has no record in a given year, his/her record in the

previous year is used to fill forward in the missing year. Although we delete all records but the

last one for each employee in any given year, all information regarding promotion, demotion,

and bonus awarded occurred during the year are still preserved. And hence, we have a

snapshot of all employees in the firm in the end of each year (Gibbs and Hendricks 2004). We

perform our analysis based on these end-of-year snapshots rather than event histories that

could possibly occur at any given time during the year. Our final sample includes a total number

of 22, 187 employees: 6,555 blue collar workers (34,808 employee-year records), 9,051 white

collar clericals (46,173 records), and 6,551 white collar managers (67,276 records).

Dependent Variable

Wage is our dependent variable of interest. Provided in the data are the nominal annual wages,

which generates some potential problem. Since the level of annual wage depends on both the

level of hourly wage and the number of hours worked for those who are paid on hourly basis, we

only include full time employees in our study to eliminate labor supply effect. In order to make

wages observed at different time comparable, all wage data are deflated to 2007 U.S. dollars.

We also take the logarithm transformation when necessary. Both real wage and log of real wages

in 2007 U.S. dollars are used in this study.


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we focus our discussion on both yearly wage patterns and pre- and post-restructuring comparison.

Other control variables are defined as the following.

As noted, the firm has 24 formal salary grade levels, with additional 25% employees paid

on hourly basis and do not belong to any salary grade level. We divide all employees into three

types: blue collar workers, white collar clericals, and white collar managers, depending on

whether they belong to a salary grade level, their exempt status, and which salary grade level

they are in. We analyze these three types of employees separately to allow different career and

wage patterns across types. For each employee, we have his or her gender, race, level of

education, and union coverage. An employees firm tenure and tenure at current salary grade

level can be easily constructed given the nature of our data. Also, we calculate the frequency of

promotions that an employee has received. This is an important proxy for job performance since

the firm did not keep performance measures in its personnel data. The firms HR manager told

us in an interview that the firm would like to eliminate any potential evaluation bias caused by

previous performance evaluations, and hence performance measures were destroyed each year

once the raise and promotion decisions were made. Following the common practices in other

sociological literatures (Castilla 2005; Castilla 2008), we also estimate the likelihood of

employment separation using a Cox proportional model and use the estimate to control for

possible sample selection, although controlling for likelihood of separation does not qualitatively

change our results.


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decomposition (Oaxaca 1973) that assumes that the effect of treatment (in this case firm

restructuring) is constant across the whole wage distribution, the method we use allows different

treatment effects across different segments of the wage distribution. This enables us to assess

different effects of firm restructuring at various points across wage distribution.

In order to separate the effect of firm restructuring on wage distribution from those of

other factors, we ask the question what the pre-restructuring wage distribution would have been

had employee characteristics attained the post-restructuring level.2

A semi-parametric approach

(DiNardo, Fortin, and Lemieux 1996) is used to construct a counterfactual pre-restructuring

wage distribution in which each individual employee is weighted in a way that overall employee

characteristics, such as age, gender, race, schooling, tenure, and union coverage, resemble those

in the post-restructuring level. Such counterfactual distribution is then compared to the actual

post-restructuring wage distribution to obtain the pure effect of firm restructuring on wages.

And hence, the discrepancy between the counterfactual and the actual distributions can be

interpreted as the change in wage distribution due to factors other than employee characteristics.

RESULTS

Figures 1 through 3 replicate figure 2 in Baker, Gibbs, and Holmstrom (1994b) and show the

group wage patterns of cohort entered since 1969. The solid baseline in each graph connects the

mean starting wage of the cohort entered in each year. There is a different line deviating from

the baseline every year, each of these lines indicates the year-by-year mean wages of that


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from a quick inspection of figures 1 through 3. First, there is a significant cohort effect, as huge

discrepancies existed among cohorts who entered the firm in different years. A more notable

trend is the decreasing of entry wages for blue collar workers between late-1970s and mid-1980s.

Second, there is also a tenure effect, shown by the nearly parallel wage profiles of cohorts

entered at different years, especially for white collar employees. This suggests wage growths are

guided by similar rules throughout the time of study.3

---Insert tables 1, 2, and 3 about here---

Figures 4 through 6 give a graphic presentation of wage dispersion, again by three types

of employees. The 10th

, 30th

, 50th

, 70th

, and 90th

wages percentiles in each year are shown in

each graph. Overall, it is clear that the lower tail inequality (the difference between the 50th and

10th percentiles) increased dramatically for blue collar workers. Combining the evidences from

figure 1, such huge increase is likely to be caused by the decreasing entry wages. Both upper tail

(the difference between the 90th and 50th percentiles) and lower tail inequality increased at

similar paces for white collar clericals. For white collar managers, upper tail inequality

increased faster than the lower tail side.


Figures 7 through 9 graphically show the results of DiNardo, Fortin, and Lemieux (DFL)

decomposition. We use the wage distribution in 1981 as pre-restructuring distribution and the

one in 1990 as post-restructuring one. The selection of timing is somewhat arbitrary, and we

choose 1981 and 1990 as the starting and end points of the whole process of corporate


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ending points (1989 or 1991) yields similar results. There are three panels in each graph: the

dashed line in the top-left panel denotes the actual 1981 real wage distribution, and the solid line

in the same panel denotes a weighed real wage distribution, which is the distribution that

would have prevailed if the employee characteristics in 1981 were the same as those in 1990.

The solid line in top-right panel is the same as the solid line in top-left panel, and the dashed line

is the actual real wage distribution in 1990. Finally, the difference of the two lines in top-right

panel is shown in the bottom-left panel. If there is no difference in the two lines in the top-right

panel, a horizontal line at zero should be observed in the bottom-left panel; this means

employees across the whole wage distribution are paid in the same way in 1981 and 1990

conditional on their characteristics. However, we do not observe a horizontal line in the bottom-

left panel in figure 7. We observe some positive difference when logarithm of real wage is

around 10 (equivalent to $22,026 in 2007 U.S. dollars) and around 11 (equivalent to $59, 874 in

2007 U.S. dollars), and we also observe some negative difference when logarithm of real wage is

between 10 and 11. This indicates, conditional on worker characteristics, less people are paid

between $22,026 and $59,874 (in 2007 U.S. dollars) in 1990 compared to 1981; more people are

paid around $22,026 and around $59,874 in 1990 than in 1981. Briefly, the wage distribution in

1990 is more polarized than in 1981, holding employee characteristics constant.


Similar inspections in the bottom-left panels of figures 8 and 9 suggest the wage

distributions for white collar workers are more skewed to the left in 1990 than in 1981the firm


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clericals (figure 9), implying the change in compensation system that inclines to reward top

performers impacted white collar managers more than white collar clericals. Overall, the change

of wage patterns for white collar workers under the semi-parametric decomposition show similar

mechanisms as the well-documented skill-biased technological change (Autor, Katz, and

Krueger 1998; Fernandez 2001). After corporate restructuring, wage inequality increased for all

types of employees.

DISCUSSION

Summary

We examine the role of the firms compensation practices in influencing wage patterns, wage

distributions, and wage inequality. The firm can shape wage patterns and limit wage inequality

through systematic wage polices. Such ability to limit wage inequality with the firm was

undermined through corporate restructuring.

We find significant cohort and tenure effects. Employees entered the firm in different

years receive very different wages. Conditional on entering wages, wage growth follow similar

patterns no matter when the employees entered the firm. A semi-parametric strategy is used to

compare wage distribution before and after corporate restructuring and implementation of

performance-based compensation system. Holding individual backgrounds and job

characteristics consistent, higher wage earners were more likely to be paid even higher after

restructuring. The effect of restructuring on low wage earners differ by types of employees


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wage inequality increased after restructuring, indicating the firms power to reduce wage

inequality was declining through corporate restructuring and market pressure.

Limitations

The issue of external validity and generalizability inevitably rises when we draw conclusions

from analysis of a single firm in such a special economic context. Two reasons help strengthen

our results. First, our findings are largely consistent with other studies of large firms in the same

period (Gibbs and Hendricks 2004; Lin 2005). Second, there certainly are firm idiosyncrasies in

wage policies and how wage patterns are influenced; we do not intend to conclude what will

happen in a certain context, alternatively, our findings provide possible explanations to what

happened in the past and also can be used to infer what may happen under similar circumstances

in the future.

As noted before, the lack of performance measures in our data also handicapped our

ability to quantitatively test how much of the change in the wage patterns can be attributed to the

introduction of performance-based compensation. Nevertheless, preliminary results not reported

here indicate that the impact of firm tenure on wages decreased after restructuring. This confirms

that wages were less dependent on firm tenure after the firm introduced a performance-based

compensation system. Also, holding explanatory powers of other control variables constant, a

decreasing impact of firm tenure implies an increasing impact of performance on wage

determination.


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In this study we address the changing of a firms role in shaping wage patterns, especially

through corporate restructuring times. We find that, in additional to economic factors, there are

institutional reasons why wage inequality increased in 1980s. Market deregulations and

takeovers necessitated corporate restructuring and to some extent weakened the internal labor

market within the firm, which in turn increased the effect of market forces on wage structure.

While some features of internal labor market were preserved through corporate restructuring, we

also observe a more polarized wage structure. The firm was more inclined to reward high

performers and pay the new hires at lower wages.

We conclude that the ability of the firm to limit wage inequality through its internal labor

market mechanisms was substantially weakened through restructuring, as market power

prevailed and altered the firms wage policies. Employment outcomes relied more on market

conditions than on firm rules. Although firm hierarchies still was and continued to be an

important factor that determines wage structure, we suggest there are increasing individual

idiosyncrasies in wage patterns and employees were less likely to shielded from market risks and

chances by the firm.

Our findings also have potential implications on current economic crisis. Downsizing

and wage cuts happened since mid-2007 resemble what occurred to the firm we study through

reduction in forces and wage restructuring in the pressure of economic efficiency. On the one

hand, we would hence expect an increasing wage inequality among the workers who manage to

stay with the same employer through current economic crisis. On the other hand, albeit the


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Figure 1: Salary Paths by Cohort, Blue Collar Workers

20000

30000

40000

50000

60

000

1970 1975 1980 1985 1990 1995Year

Salary Paths for Each Cohort (Blue Collar Workers)

Figure 2: Salary Paths by Cohort, White Collar Clericals

30000

35000

40000

45000

50000

55000

1970 1975 1980 1985 1990 1995Year

Salary Paths for Each Cohort (White Collar Clericals)

Figure 3: Salary Paths by Cohort, White Collar Managers

0000

120000

Salary Paths for Each Cohort (White Collar Managers)


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Figure 4: Wage Dispersion of Blue Collar Workers, 1969-1993

9.5

10

10.5

11

LogRealAnnualWage

1970 1975 1980 1985 1990 1995Year

10th Percentile 30th Percentile


90th Percentile

Wage Dispersion of Blue Collar Workers

Figure 5: Wage Dispersion of White Collar Clericals, 1969-1993

10

10.2

10.4

10.6

10.8

11

LogRealAnnualWage

1970 1975 1980 1985 1990 1995Year



90th Percentile

Wage Dispersion of White Collar Clericals

Figure 6: Wage Dispersion of White Collar Managers, 1969-1993

11.2

11.4

11.6

11.8

RealAnnualWage

Wage Dispersion of White Collar Managers


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Figure 7: DFL Decomposition for Blue Collar Workers, 1981 versus 1990

0

1

2

3

4

Density

9 10 11 12Log Real Wages

1981 Weighted 1981

0

1

2

3

Density


1990 Weighted 1981

-.4

-.2

0

.2

.4

Differencein

Densities


DFL Decomposition for Blue Collar Workers

Figure 8: DFL Decomposition for White Collar Clericals, 1981 versus 1990

0

.5

1

1.5

Density

9.5 10 10.5 11 11.5Log Real Wages

1981 Weighted 1981

0

.5

1

1.5

Density

9.5 10 10.5 11 11.5Log Real Wages

1990 Weighted 1981

-.4

-.2

0

.2

.4

Differencein

Densities

9.5 10 10.5 11 11.5Log Real Wages

DFL Decomposition for White Collar Clericals

Figure 9: DFL Decomposition for White Collar Managers, 1981 versus 1990

0

.5

1

1.5

Density


1981 Weighted 1981

0

.5

1

1.5

Density


1990 Weighted 1981

DFL Decomposition for White Collar Managers


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20

Table 1: Mean Real Annual Wages in 2007 U.S. Dollars, Tenures, and Ages of All Employees Hired After 1969

Blue Collar Workers White Collar Clericals White Collar ManagersYear RealWage

Tenure(Year)

AgeRealWage

Tenure(Year)

AgeRealWage

Tenure(Year)

Age

1969 $44,072 0.62 42 $35,426 0.60 31 $73,869 0.62 401970 $45,630 1.13 42 $35,177 1.16 31 $73,926 1.38 391971 $49,870 1.81 41 $38,045 1.81 32 $80,341 2.22 391972 $50,899 2.51 41 $38,551 2.43 32 $82,410 3.01 391973 $51,593 3.01 39 $38,121 2.60 31 $82,533 3.60 39

1974 $49,960 3.27 36 $37,681 2.70 31 $85,092 3.96 381975 $53,014 3.57 35 $38,302 3.28 31 $82,517 4.63 371976 $54,422 3.73 34 $38,825 3.56 31 $84,393 4.85 371977 $54,279 3.86 33 $37,856 3.78 31 $83,222 5.20 361978 $55,512 4.21 33 $37,690 3.92 31 $83,174 5.42 351979 $59,398 4.33 33 $36,807 4.01 31 $80,569 5.58 351980 $50,749 4.41 32 $34,915 3.91 31 $75,768 5.49 341981 $50,319 4.53 33 $35,607 3.86 31 $78,053 5.47 34

1982 $51,019 5.03 33 $37,660 4.43 32 $83,540 5.96 341983 $51,510 5.73 34 $38,589 5.05 32 $86,327 6.72 351984 $49,928 6.19 35 $37,648 5.52 33 $86,503 7.62 351985 $46,155 6.17 34 $37,691 5.85 34 $87,692 8.02 361986 $45,417 6.69 35 $38,739 6.68 34 $89,830 8.84 361987 $44,816 7.06 35 $38,551 7.05 35 $89,264 9.35 361988 $43,748 7.08 35 $38,212 6.55 35 $89,406 9.43 371989 $43,179 7.44 36 $37,822 6.49 35 $88,416 9.49 371990 $43,446 7.74 36 $38,620 6.71 35 $88,265 9.70 371991 $44,140 8.36 37 $39,557 6.95 36 $90,218 10.06 371992 $45,180 9.14 38 $40,189 7.70 37 $91,902 10.79 381993 $46,207 9.32 39 $40,894 7.83 37 $93,341 11.04 38

wage structure

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