This paper presents annual indices for labor quality in Israel for the period 1987-2005, and analyses the main factors that affected quality changes. The quality-adjusted labor input series, which takes into account quality changes, grew on average by 0.36 percentage points per year in excess of standard labor input. This finding implies that about one third of TFP growth can be attributed to improvements in the quality of labor.

The main changes in labor composition that affected labor quality were the increase in workers' education, which increased labor quality dramatically, while the increase in the share of new immigrants, the rise in female participation, and the relative increase in the number of non-Israeli workers had a negative effect on labor quality. The increase in the return to education and the rise of the relative wage of new immigrants and females contributed to labor quality.
The new immigrants, mostly from the former USSR, had a large negative effect on labor quality, especially during the 1990s, in spite of their relatively high human capital, as their skills and knowledge did not match the local labor market needs. Although their relative wage has increased throughout the period, it is still lower than the wage of non-immigrants.
The decline in labor quality during the mass immigration period partially explains slow TFP growth at that time, as well as the gap between productivity growth in Israel and other developed economies.

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