This study examines forecasts of the incentives theory, according to which a wage that is less sensitive to employees' performance or skill attracts employees of lower quality, and vice versa. Data relating to a panel of employees was used to study staff who moved from one sector to the other in the period from 1995 to 2005. Using parametric and non-parametric methods, we found that in line with the situation in other advanced economies, the wage structure in the public sector in Israel is more compressed than that in the private sector, for employers with similar characteristics and in general, and that the difference widened during the period. Hence, the findings support the contention that the public sector compensates employees less for their skills than does the private sector. In contrast, it was found that in the course of the period studied, the return to education increased at a similar rate in both sectors. In the analysis of those who switched from one sector to the other, it was found that, consistent with the changes that occurred during the period, the public sector succeeded throughout most of the period in both attracting higher educated employees from the private sector, and in most cases to prevent higher educated employees from leaving for the private sector. Furthermore, a significant positive connection was found between the difference between the increase in the return to education in both sectors and men's education on the one hand, and their tendency to leave their jobs, on the other. An analysis of employees' non-formal skills, i.e., their residual wage, confirms the existence of dominant negative selection among those who moved from the private sector to the public sector, mainly among women, and the existence of both positive and negative selection among those who moved in the opposite direction.

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