Wage Compression, Learning, and Self-Employment Nikolaj Malchow-Mlller Centre for Economic and Business Research (CEBR), and University of Southern Denmark James R. Markusen University of Colorado, Boulder, and Centre for Economic and Business Research (CEBR) Jan Rose Skaksen Copenhagen Business School, and Centre for Economic and Business Research (CEBR) March 3, 2005 Abstract While the existing literature on the self-employment choice has focussed on individual di/erences, we combine this with two impor- tant institutional features: Wage compression and learning. With wage compression, workers become self-employed for both "carrot" and "stick" reasons. Some prefer self-employment to the low insti- tutionalised wage, while others cannot qualify for this wage. Fur- thermore, learning induces some workers to start out in wage work before switching to self-employment. Hence, our model can explain two empirical regularities: i) the existence of a group of low-skilled entrepreneurs; and ii) the increasing propensity for self-employment over age groups. Further predictions of the model concerning transi- tion probabilities and earnings distributions are also consistent with existing empirical evidence. 1