JOS´E A. F. MACHADO* AND JOS´E MATA

SUMMARY
We propose a method to decompose the changes in the wage distribution over a period of time in several
factors contributing to those changes. The method is based on the estimation of marginal wage distributions
consistent with a conditional distribution estimated by quantile regression as well as with any hypothesized
distribution for the covariates. Comparing the marginal distributions implied by different distributions for
the covariates, one is then able to perform counterfactual exercises. The proposed methodology enables the
identification of the sources of the increased wage inequality observed in most countries. Specifically, it
decomposes the changes in the wage distribution over a period of time into several factors contributing to
those changes, namely by discriminating between changes in the characteristics of the working population
and changes in the returns to these characteristics. We apply this methodology to Portuguese data for the
period 1986–1995, and find that the observed increase in educational levels contributed decisively towards
greater wage inequality. Copyright  2005 John Wiley & Sons, Ltd.