Do Cash Windfalls Affect Wages? Evidence from R&D Grants to Small Firms
66 Pages Posted: 2 Nov 2019 Last revised: 15 Nov 2019
Date Written: November 2019
This paper examines how employee earnings at small firms respond to a cash flow shock, which takes the form of a government R&D grant. Applicant firms are linked to IRS W2 earnings and other U.S. Census Bureau datasets. In a regression discontinuity design based on private ranking data, we find that the grant increases average earnings with a rent-sharing elasticity of 0.09 (0.21) at the employee (firm) level. The effect is only observed for incumbent employees who were present at the firm before the award. Among incumbent employees, the effect is strongly increasing in worker tenure. The grant increases within-firm wage inequality, in part because new hires earn less than the firm average. The grant also leads to higher employment and revenue, but a growth channel cannot fully explain the effect on earnings. The data and a grantee survey are consistent with a backloaded wage contract channel, in which employees of a financially constrained firm initially accept low wages and are paid more when cash is available.
JEL Classification: G32, G35, J31, J41
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