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The Cross-Sectional Implications of Rising Wage Inequality in the United States

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Author Info
Heathcote, Jonathan
Storesletten, Kjetil
Violante, Giovanni L

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Abstract

This Paper explores the implications of the recent sharp rise in US wage inequality for welfare and the cross-sectional distributions of hours worked, consumption and earnings. From 1967 to 1996 cross-sectional dispersion of earnings increased more than wage dispersion, due to a rise in the correlation between wages and hours worked. Over the same period, inequality in hours worked remained roughly constant, and consumption inequality increased only modestly. Using data from the PSID, we decompose the observed rise in wage inequality into changes in the variance of permanent, persistent and transitory shocks. With this changing wage process as the only primitive, we show that a calibrated overlapping-generations model with incomplete markets can account for these trends in cross-sectional US data. We also investigate the welfare costs of the rise in wage in-equality: the ex-ante loss is equivalent to a 5% decline in lifetime income for the worst affected cohorts.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 4296.

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Date of creation: Mar 2004
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Handle: RePEc:cpr:ceprdp:4296

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Related research
Keywords: consumption inequality; labour supply; wage inequality; welfare;

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Find related papers by JEL classification:
D11 - Microeconomics - - Household Behavior - - - Consumer Economics: Theory
D31 - Microeconomics - - Distribution - - - Personal Income and Wealth Distribution
D58 - Microeconomics - - General Equilibrium and Disequilibrium - - - Computable and Other Applied General Equilibrium Models
D91 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Consumer Choice; Life Cycle Models and Saving
E21 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
I32 - Health, Education, and Welfare - - Welfare and Poverty - - - Measurement and Analysis of Poverty
J22 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Time Allocation and Labor Supply
J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials

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