Sources of Wage Inequality

Theoretical research in international trade increasingly focuses on …rm heterogeneity in di¤erentiated product markets following Melitz (2003). A key implication of this line of research is that …rms are unevenly affected by trade liberalization: low productivity …rms exit, intermediate-productivity domestic …rms contract, and high-productivity exporting …rms expand. More recent theoretical research has provided conditions under which …rm wages vary with …rm revenue, which opens up a new channel for trade to a¤ect wage inequality. Trade liberalization that enhances the dispersion of revenues across …rms also increases wage inequality across workers and …rms. One line of research assumes competitive labor markets, so that all workers with the same characteristics are paid the same wage, but wages can di¤er across …rms because of di¤erences in workforce composition (e.g. Verhoogen 2008 and Yeaple 2005). Another line of research introduces labor market frictions, so that workers with the same characteristics can be paid di¤erent wages by different …rms. Potential sources of such labor market imperfections include search and matching frictions (e.g. Davidson and Ma-