Abstract
This paper examines the impact of minimum wage policies on firm wage premia and wage inequality, focusing on Uruguay's significant minimum wage increases in 2005. Using matched employer-employee data from administrative social security records, the study provides compelling evidence of the quantitative importance of the causal channel through which minimum wages compress the distribution of wage premia. First, we present descriptive evidence showing that wage inequality in Uruguay fell sharply after the minimum wage reform, driven largely by a compression in between-firm, rather than within-firm, inequality. Second, an analysis using the two-way fixed-effects AKM variance decomposition suggests a decline in the importance of firm fixed effects in explaining wage inequality, with the share decreasing from 30% pre-reform to 18% by the end of the period. The study also employs newly developed time-varying AKM models, documenting that post-reform, low-paying firms experienced faster wage growth, further compressing the wage distribution. Causal analyses, using a GAP design, confirm that the minimum wage reform significantly influenced these patterns, indicating that policy can disrupt firms' wage-setting power and contribute to wage compression not only by reallocating employment but also by increasing wage premia for lower-paying firms.