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Beyond BLS

Beyond BLS briefly summarizes articles, reports, working papers, and other works published outside BLS on broad topics of interest to MLR readers.

October 2023

The effect of location on wages

Summary written by: Lisa N. Huynh

Income levels in the United States vary greatly by location. Larger cities generally offer higher wages and returns to education, but even cities of comparable size have substantial income disparities. In the working paper, “Location, location, location” (National Bureau of Economic Research, Working Paper 31587, August 2023), authors David Card, Jesse Rothstein, and Moises Yi analyze how location-based factors affect wages. They find that mean wages vary across different commuting zones (CZs) because of differences in worker ability and place effects. Place effects refer to how outcomes of individuals may be influenced by the neighborhood they live in. Also, the authors observe that college-educated workers receive larger returns for living in higher-wage or larger cities.

The authors use the Longitudinal Employer–Household Dynamics program of the U.S. Census Bureau to calculate the average pay differences of workers who work in different CZs. To identify the factors that affect average pay differences, the authors use a fixed effects model, which controls for variables that are constant and do not change (such as age) across all individuals. They use the model to look at quarterly log earnings with person and establishment fixed effects, which include person and place effects. The authors then average the estimated effects across establishments by location to calculate CZ wage premiums, which represent losses or gains in workers’ pay associated with moving from an average establishment in one CZ to another.

In their analysis, the authors also identify the “effects of skill-based sorting on observed earnings differences across CZs.” They note that the variation in mean earnings across CZs is only half explained by place effects; the other half is explained by worker sorting. Worker sorting refers to how individuals with higher earning potential usually reside in CZs with higher wages, increasing inequality in average earnings across these different CZs. The authors discover that workers in larger CZs have more dispersion of skills. The college wage gap is also larger in higher-wage places. The earnings of individuals with a college degree compared with earnings of individuals without a college degree are greater.

The authors conclude that theories related to industry composition or location-specific factors suggest that when individuals relocate to larger or higher wage areas, they become more productive and subsequently earn higher wages. However, with local housing costs, places with a higher cost of living offset any local pay premiums that workers receive for working in larger CZs. Factors that affect pay premiums, such as productivity, could affect policy, whereas other local factors, such as climate conditions, could still signify the importance of increasing housing in highly productive locations.