Why Are State and National Wages Different? 1

Why do wage differences occur? What explains differences in the average wage between a given state and the U.S.? Industry mix? Overall wage rates across industries? 2

Differences in wages The difference between a state’s average wage and U.S. average wage can be decomposed into the Industry Mix Effect and the Level Effect. 3

Differences in Average wage The Industry Mix Effect gets at the impact of the state’s industry mix on the average wage. States with an industry mix tilted towards high-wage industries will enjoy a higher overall wage. 4

Differences in Average wage The Level Effect examines the magnitude of a state’s average wage industry-by-industry relative to the U.S. Given the industry mix, a state with higher wage industry-by-industry will enjoy higher overall average wage. 5

Differences in Average wage State Wage - U.S. Wage = Industry Mix Effect + Level Effect. 6

Differences in Average wage Example: Tennessee average wage compared with the U.S. 2010: – Tennessee: $41,760 – United States: $46,455 – Difference: -$4,695 – Question: how much of the difference is due to the Mix Effect and how much to the Level Effect? – Data: private sector QCEW series. 7

Determining the Industry Mix Effect The Industry Mix Effect is the portion of the state-U.S. wage difference that can be explained by the state’s particular employment distribution across industries. Example: a state with above average employment in a nationally high-wage industry will raise its average wage. 8

Determining the Industry Mix Effect Questions: What is a nationally high-wage industry? What is an industry with above average employment? 9

Determining the Industry Mix Effect We can define a high-wage industry as having a wage higher than the national average wage. Define the Wage Margin = Industry Wage – Total Wage (both for the U.S.). 10

Determining the Industry Mix Effect High-wage and low- wage industries for the U.S. 11

Determining the Industry Mix Effect What is an industry with above average employment? These industries for a state have a higher employment share compared with the national average. Definition: Employment share difference = state share of employment – U.S. share. 12

Determining the Industry Mix Effect Determining industries with above and below average employment for Tennessee 13

Determining the Industry Mix Effect To calculate the industry mix effect, multiply the Wage Margin by the Employment Share Difference, then add up. 14

Determining the Industry Mix Effect 15

Determining the Industry Mix Effect The industry mix effect for Tennessee equals -$242. This means that Tennessee’s average wage is $242 lower than the U.S. average wage because of the state’s particular mix of industries. 16

Determining the Level Effect The Level Effect measures the portion of the state-U.S. wage difference that is due to higher or lower wages industry-by- industry. Given the mix of industries, a state with higher wages industry-by-industry will enjoy a higher overall average wage. 17

Determining the Level Effect The Level Effect is the weighted average of state-national wage differences industry-by-industry, using the state industry share as weights. Definition: Wage difference = state wage by industry – U.S. wage by industry. 18

Determining the Level Effect 19

Determining the Industry Mix Effect The Level Effect for Tennessee equals -$4,452. This means that Tennessee’s average wage is $4,452 smaller than the U.S. because of lower wages by industry, holding industry mix constant. 20

Differences in Average wage Tennessee average wage compared with the U.S. 2010: – Tennessee: $41,760 – United States: $46,455 – Difference: -$4,695 Difference due to industry mix: -$242 Difference due to wage level: -$4,

Differences in Average wage Suppose a state wishes to target scarce resources for a policy that will move the state closer to the U.S. average wage. 22

Closing Wage Differences Which policy (in Tennessee’s case) is more supported by the facts? 1)Recruit and/or develop more businesses in higher-wage industries. 2)Institute policies (education, training, R&D) that result in higher productivity and higher wages across the board (over a broad set of industries). 23

Appendix: Alaska Alaska average pay 2010: $47,171 U.S. average pay 2010: $46,455 – Difference: + $716 What explains the positive difference? 24

Appendix: Alaska Alaska average pay 2010: $47,171 U.S. average pay 2010: $46,455 – Difference: + $716 What explains the positive difference? 25

Appendix: Alaska 26

Appendix: Alaska 27

Differences in Average wage Alaska average wage compared with the U.S. 2010: – Alaska: $47,171 – United States: $46,455 – Difference: + $716 Difference due to industry mix effect: -$1,855 Difference due to level effect: +$2,577 28

Differences in Average wage Are wages higher because Alaska is more productive, or because of a higher cost of living? Can Alaska gain by tweaking the industry mix? 29