Public vs. Private Sector Compensation: A Case of Curious Controversy By Bryan Caplan

Bewerunge and Rosen’s working paper on public- versus private-sector compensation begins with a discussion of recent controversy:

Putting the inflammatory rhetoric aside, much of the debate boils down to the question of whether public and private sector workers receive about the same compensation. As New Jersey Governor Chris Christie expressed it, “at some point, there has to be parity between what is happening in the real world and what is happening in the public-sector world” [2010]. Exploring this issue is challenging for two reasons. First, the human capital of public and private sector workers may differ. If, for example, public sector workers have more education than private sector workers, then it is neither surprising nor objectionable that they earn higher wages. This is precisely the argument made by former White House budget director Peter Orszag regarding federal government compensation: “Basically the entire delta between private sector and public sector federal government average pay can be explained by education and experience…while there may be some remaining disparities, I think some of the more dramatic newspaper stories I’ve seen about that disparity are somewhat misleading” [Tuutti, 2010]. Indeed, if public sector workers have substantially more education than private sector employees, they might be underpaid compared to what they would earn in the private sector, a point made by Nobel laureate Paul Krugman [2010]: “[T]hose workers aren’t overpaid. Federal salaries are, on average, somewhat less than those of private-sector workers with equivalent qualifications” [2010].

Last month, I read most of the academic literature on this topic. The more I read, the more confused I became. As far as I could tell, researchers reached a clear answer: federal employees really are paid more than equivalent workers in the private sector. How then can serious economists debate the issue in the media?

I was pleased, then, to learn that Bewerunge and Rosen share not only my assessment of research on federal pay, but my puzzlement about the controversy. B&R’s on the state of the literature:

The literature on wage differentials between public and private sector employees spans roughly four decades, originating with Smith’s [1976a, 1976b, 1977] seminal series of papers. The core of her analysis is the estimation of conventional human capital earnings functions. For example, in Smith [1976b] she uses 1973 Current Population Survey (CPS) data to estimate for each gender a regression of the logarithm of the wage on various worker characteristics such as years of schooling and race, including a series of dichotomous variables indicating whether each individual worked in the federal, state, or local government sectors (the private sector is the omitted category). For males, she finds wage differentials relative to the private sector of 19 percent in federal government and -4.9 percent in local government. The coefficient on the state government variable is statistically insignificant. The differentials for female workers are 31 percent in federal government, 12 percent in state government, and 3.6 percent in local government… Papers subsequent to Smith’s have modified her approach by trying to correct for self-selection of workers into various sectors, by using panel data to estimate fixed effects models, and by estimating models on a state-by-state basis to allow for the possibility that labor market institutions, and hence public sector wage differentials, vary across states. A fair way to summarize the findings in this literature is as follows: a robust result, found in almost all the research from Smith’s early papers on, is that there is a substantial positive wage differential for federal employees, even after controlling for worker characteristics in the standard way.

Bewerunge and Rosen’s express their puzzlement in a footnote at the end of the preceding sentence:

Hence, the opposite characterization of the literature by Peter Orszag and Paul Krugman (see section 1 above) seems rather curious.

Any charitable explanation for the curious controversy?