Cognitive skills and wage inequality

Labor economists have tried to explain in recent years why the United States has higher levels of wage inequality compared with other countries such as Canada and various European countries. Possible explanations involve labor market institutions, market factors, and labor force characteristics.

In "Do Cognitive Test Scores Explain Higher U.S. Wage Inequality?" (National Bureau of Economic Research Working Paper 8210), Francine D. Blau and Lawrence M. Kahn of Cornell University attempt to identify the role of cognitive performance in explaining differences among countries in wage inequality. They use microdata from the 1994-96 International Adult Literacy Survey (IALS).

The IALS includes results from comparable tests given to men and women in a number of countries in the following areas: mathematics, prose literacy, and document-reading ability. (Prose literacy is distinguished from document-reading literacy in that the former refers to knowledge and skills required to comprehend and use information in texts such as news stories and fiction, whereas the latter refers to knowledge and skills required to locate and use information that is in various formats such as job applications and transportation schedules.)

Blau and Kahn's analysis indicates that, although cognitive skills play a role in explaining the greater wage inequality in the United States compared to other countries, "higher labor market prices (i.e. higher returns to measured human capital and cognitive performance) still play important roles for both men and women." Their analysis also shows that "on average, prices are quantitatively considerably more important than differences in the distribution of test scores in explaining the relatively high levels of wage inequality in the U.S."