The Hidden Cost of Job Loss: Wage Scarring and Stigma in the Mexican Workforce

In a groundbreaking analysis from the World Bank’s Prosperity Vertical Vice Presidency, researchers Francisco J. Arias and Daniel Lederman present one of the most comprehensive studies to date on labor market scarring in a developing economy. The study fills a critical gap in global labor economics literature by exploring how job displacement, particularly through plant closures, impacts long-term earnings, employment formality, and working hours in a country where informal labor constitutes a significant share of the workforce. Drawing on extensive data from the Encuesta Nacional de Ocupación y Empleo (ENOE), managed by Mexico’s National Institute of Statistics and Geography (INEGI), the research covers the period from 2005 to 2019 and spans more than 1.6 million employed individuals.

Displaced Workers See Significant Wage Losses

At the heart of the study lies the concept of labor market scarring, persistent declines in earnings and employment quality following involuntary job loss. Using plant closures as an exogenous event, the researchers found that displaced Mexican workers experienced an average wage reduction of 7.5 percent over nine years compared to those who were not displaced. The loss is particularly acute in the first year following displacement, reaching 10.8 percent. Through a combination of ordinary least squares (OLS) and difference-in-differences (DID) estimation techniques, the authors isolate the causes of these earnings losses. Their findings show that 30.8 percent of the wage decline can be attributed to stigma, employers’ uncertainty, or negative assumptions about displaced workers, while the remaining 69.2 percent is due to the loss of firm-specific skills and knowledge.

Education Matters More Than Gender

One of the study’s most revealing insights concerns how labor market scarring differs across social groups. While the analysis found no statistically significant variation in wage scarring between men and women, it did observe substantial differences by educational attainment. Highly educated workers, those with more than a high school diploma, suffered a much larger wage loss of 14.2 percent, compared to just 6.7 percent for workers with less education. This pattern is somewhat paradoxical, as one might expect more skilled workers to adapt more quickly in the labor market. Yet the evidence suggests that these individuals often hold specialized positions, making transitions to new jobs more difficult and losses more severe. Interestingly, stigma played a larger role in the earnings loss of low-educated workers (27 percent) compared to high-educated workers (11 percent), underscoring how informal employment environments exacerbate information gaps between job seekers and employers.

Coping Mechanism: More Hours, Less Pay

The study also uncovers an important behavioral response among displaced workers: a marked increase in working hours. On average, displaced individuals worked 2.1 additional hours per week in the year after displacement, with this figure slowly tapering over time to 0.7 hours after nine years. Among low-educated workers, the increase was even more pronounced, rising to 2.8 extra hours per week, indicating that longer hours serve as a coping strategy to offset declining wages. Highly educated workers, in contrast, saw a more modest rise in hours worked, consistent with their more constrained job options and possibly greater reliance on salaried positions.

Formal Employment Trends Defy Expectations

A particularly compelling dimension of the research challenges a common assumption in labor economics: that job loss in the formal sector leads to long-term informality. While displaced workers do experience a temporary drop in the likelihood of working in the formal sector, this trend reverses over time, especially for the low-educated group. Nine years after displacement, these individuals were 5.6 percentage points more likely to be formally employed than their non-displaced counterparts. The trajectory for highly educated workers is less encouraging. Initially, they experience a sharp drop in formal employment likelihood (down 11 percentage points), and though this gradually narrows, the recovery is far slower, taking up to six years. This divergence underscores the different ways workers reconnect with the labor market depending on their education level, with lower-skilled individuals potentially benefiting from more accessible formal roles in lower-tier sectors.

Implications for Policy and Future Research

While the paper’s methodological framework is robust, the authors acknowledge a key limitation: the absence of employer-employee match quality data, which could influence both the probability of plant closings and the outcomes of displaced workers. Nevertheless, the study mitigates this concern through several robustness checks, including industry-level fixed effects and a comparison of pre-displacement characteristics between displaced and non-displaced workers. Notably, displaced workers were more likely to have been formally employed prior to job loss, reinforcing the argument that the observed effects are not merely artifacts of pre-existing differences.

The research makes a vital contribution by anchoring labor market scarring in a developing country context, where informal employment, educational disparities, and institutional weaknesses play a defining role. For policymakers in Mexico and other developing economies, the findings offer a roadmap for targeted labor interventions. These could include wage subsidies for displaced workers, retraining programs focused on transferable skills, and efforts to reduce stigma through certification or employment history transparency. The study ultimately delivers a clear message: labor market scars in developing economies are deep, complex, and enduring, but with informed policy, they can be softened and, in some cases, reversed.