107 5. Switching from paid employment to entrepreneurship: the efect on individuals’ earnings Miguel Torres Preto, Rui Baptista and Francisco Lima INTRODUCTION The role played by the characteristics and preferences of individuals, as well as general and speciic human capital in determining whether indi- viduals choose wage employment or self-employment, has been addressed by some key theoretical and empirical works in the discipline of econom- ics (Lucas, 1978; Kihlstrom and Lafont, 1979; Evans and Leighton, 1989a; Blanchlower and Oswald, 1998; and Lazear, 2005). While theo- retical models highlight diferences in expected earnings as the main factor determining the decision, empirical evidence does not provide clear support that earnings diferentials play a signiicant (or, at least, the most signiicant) role in the choice between these two occupations (Parker, 2004). Moreover, empirical evidence on earnings diferentials between the self-employed and wage employees does not favour the former (Hamilton, 2000). The main objective of this chapter is to look at the pecuniary impact of becoming a business owner after being employed in a irm. We use data that allow us to observe individual and irm level efects on incomes simul- taneously, thus avoiding misspeciication problems associated with panel studies that only include personal data. We account for multiple deter- minants of wage earnings, such as individual attributes (age, education), employer characteristics (irm size, economic sector, and administrative region), and individuals’ career paths. In line with labour economics research, while estimating individual earn- ings, we estimate diferent types of earnings models, each including difer- ent kinds of information concerning wage determinants. We irst consider individual attributes such as age, schooling and tenure, while controlling for irm characteristics, including irm size, industry and region. Secondly, M1868 - SMALLBONE TEXT.indd 107 M1868 - SMALLBONE TEXT.indd 107 27/5/09 10:07:04 27/5/09 10:07:04