What explains wage in India?

AuthorM., Krishna
PositionBy Contribution - Abstract


'What explains wage' has featured prominently in the literature on labor economics for the last four decades, receiving scholarly attention from academia, researchers, and policy makers (Groshen, 1990). In a competitive labor market, according to conventional wisdom, firms pay wages that result from the conflicting interests between the demand for and the supply of labor. More specifically, if the demand for labor exceeds the supply of labor, wages tend to increase in the labor market, and vice versa. Within the broad spectrum of demand and supply, a pertinent issue that has received tremendous scholarly attention relates to why workers are paid differently (Mortensen, 2003). Intuitively, the prevalence of wage differentials in various segments of the labor market can primarily be attributed to two distinct reasons: first, workers employ in sundry economic activities that are not unique in nature; second, workers are profoundly heterogeneous, consisting of different level of skills and knowledge with which they perform their work. Economists too emphasize that the market-determined wage is a function of skills and knowledge acquired through schooling and training, broadly termed as human capital (1) (Schultz, 1961; Becker, 1962; Mincer, 1974). In other words, the factors such as years of schooling, age, and years of labor market experience account for a significant part of the variation in wages. More aptly, the proportion of wage variation is largely explained by human capital, which primarily emanates from the years of investment in schooling. In a nutshell, workers are distinct from each other and each worker possesses a unique set of skills and abilities. Quite clearly, the skills and abilities that the workers possess play not only a critical role in the entry of the labor market, but a crucial role in explaining wage differentials.

However, from a pragmatic point of view, it is widely acknowledged that the major components of human capital may have limits in capturing much of the variations in wage, when household, personal, labor market dualistic identities such as male-female, rural-urban, formal-informal, backward-forward castes, higher-lower order occupations, and services-other activities generate critical heterogeneity in the distribution of wages (2) (Livingstone, 1987; Groshen, 1990). For instance, taking cues from Groshen (1990), the conventional human capital variables--years of education, age, and age squared-account for slightly over one-fourth of the variation in wages. Typically, 6 per cent of the variation in wages can be attributed to the personal and household characteristics such as race, sex, and so on. Hence, identifying the determinants of wages not only captures the theoretical obfuscations in defining a wage function but also provides insights that pave the way for an effective policy formulation. Against this backdrop, our attempt in this paper is to identify the major explanatory variables of wages in India.

Data Source

To derive a wage function at an aggregate level, we use NSS 66th round unit level data, which was conducted from July 2009 to June 2010. At the unit level, the NSS 66th quinquennial round that includes household, personal and labor market characteristics covers 12 levels of database. For the present analysis, we consider following 4 distinct levels: level 2, level 4, level 5 and level 7. Level 2 consists of household aspects such as religion, social group, land owned, and financial status, whilst level 4 and 5 present demographic and employment status at individual level. Level 7, which constitutes a central part of this study, covers the details of wage and salary of workers. Our analysis begins by generating a spreadsheet for each level with varying sample size. The merger of four level-specific spreadsheets is done using key identification items-first stage sampling unit (FSU) serial number, hamlet-group/sub-block number, household serial number, level number and item/person serial number. It is important to note that workers who are engaged in the employment status of self-employed and casual labor are ruled out from the analysis, owing to the prevalence of sparse wage data (3). Further, within the group of regular wage/salaried workers, we limit our analysis to workers aged between 15 and 59. To identify the major variables that explain wages, we consider the following independent variables: type of employment, sex, sector, age, years in general education, technical education, number of workers in the enterprise, economic activity, occupation, social groups, and human development of the states (HDI). While age, general education, and human development are continuous variables, the remaining are binary categorical variables. Table 1, which depicts the wage function of regular wage/salaried workers (4) at an aggregate level, shows the degree to which wages are influenced by personal and labor market characteristics.

A Wage Function

The status of employment in India is classified into two: formal and informal. While the former absorbs a small percentage of workforce, the latter covers a substantial size of India's workforce employed in both organized and unorganized enterprises, which according to India Labor Market Report 2009, accounts for around 93 per cent. The core difference between formal and informal employment is that the former type provides entitlements like social security, albeit heterogeneity in type of employers (5), while informal employment seems to be niggardly in provisioning social security and entitlements, which are entailed to ensure conditions for decent work. Our result suggests that workers who belong to the formal category, on average, earn about 54 per cent more than informal workers. Quite interestingly, formal-informal dichotomy is significantly discernible across social groups, sex, age, technical education, number of workers in the enterprise, economic activity, occupation, and HDI of states (6).

A number of empirical studies have documented the male-female wage differentials, which have long been a major area of research (Madheswaran, 2010; Agrawal, 2011). It is generally observed in Indian labor markets that, as shown in table 1, on average, male workers earn 25 per cent more than female workers and the male-female wage gap is quite glaring in rural India, as compared to urban sector. Quite clearly, male regular workers in rural India receive 39 per cent more than female regular workers and the male-female wage gap is discernibly low in urban labor market, as compared to rural labor market. Contrary to Phimister's (2005) study, which postulates that women are likely to earn more than men in an urban setting, our study indicates that the rural-urban dichotomy does not significantly alter the earning capacity for female workers. Interestingly, the differentials observed in the male-female wage earnings, to a large extent, can be attributed to three aspects: skill difference, economic discrimination (7), and occupational crowding (8). Evidence suggests that the skewed distribution of human development in different states deteriorate the wage inequality between women and men (Appendix 2). It is worth noting that the hypothesis put forward by Mincer and Polachek (9) shows that the women, on average, tend to acquire less human capital than men because of their time allocation in household sector, leading to a discontinuity in women labor supply over the life cycle. In fact, the discontinuity from the labor market negatively influences the human capital formation and wage earnings.

Although the coefficient of...

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