Human capital revisited: the role of experience and education when controlling for performance and cognitive skills

Human capital theory predicts that differences in wages arise because of differences in human capital. The latter can be accumulated in two ways: through experience and education. Using matched firm worker data for the Ghanaian Manufacturing sector we test whether changes in wages over the life cycle reflect changes in performance, following the methodology of Medoff and Abraham (1980, 1981), and find that they are independent, which contradicts human capital theory. This result holds when controlling for firm fixed effects, and is confirmed by further analysis. When we include a control for on-the-job-training in the wage equation, it does not attenuate the seniority profile, which is also at odds with human capital theory. We do find however that firm characteristics play an important role. Wage-seniority profiles are steeper in large firms, but performance profiles are not, suggesting that while human capital theory may have limited explanatory power in large firms, as shown by Medoff and Abraham, it may have more explanatory power for small firms. We then assess the role of education and find, using data on cognitive ability, that the effect of education on wages is at least partially because it signals cognitive ability, and that the returns to education are not related to performance, while the returns to cognitive ability are. Education is, however, important for the allocation to job levels.