Income Dynamics in Dual Labor Markets

When measuring income dynamics, discrete labor market events have been traditionally ignored. However, income trajectory and labor market history are intricately linked. In this paper, I use the stochastic EM algorithm to estimate a tractable statistical framework that combines discrete events in a dual labor market with continuous variables characterizing income trajectory over time. The model takes into account potential endogenous selection, by allowing the same observable and latent characteristics of workers to explain both how their income evolves over time and their selection into labor market statuses. My empirical results highlight the existence of nonlinearities in the income process and the importance of considering a dual labor market framework, as the income dynamics of permanent and temporary workers differ dramatically. I further use my theoretical framework to document new relevant empirical facts about the functioning of dual labor markets. Among them, I provide evidence of compensating differentials in income levels between temporary and permanent workers, and I measure the lifetime impact of the entry labor market contract