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International Competition, Returns to Skill and Labour Market Adjustment

Does increased import competition lead to higher returns to skill within an industry and, therefore, to greater incentives for skill acquisition? Does it also induce skill upgrading by the industry’s existing workforce? To answer these questions we follow individual workers across skills/occupations, firms and industries using a longitudinal matched employeremployee dataset covering virtually all workers and firms in Portugal over the 1986-2000 period. To identify the effects of international competition we use two exogenous measures of changes in international competition at the industry-level. First, a quasi-natural experiment based on the strong appreciation of the Portuguese currency in 1989-1992 period and preexisting differences in trade exposure across industries in a differences-in-differences estimation. Second, source weighted real exchange rates defined at the industry-level. Based on both empirical strategies, and on two different skill definitions, we show that international competition increases returns to skill and induces skill/occupation-upgrading within an industry.