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Enterprise, Inequality and Economic Development

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  • Dan Bernhardt
  • Huw Lloyd-Ellis

Abstract

We develop a dynamic general equilibrium model of economics development with altruism in which the evolution of the extent of entrepreneurship, the rate of rural-urban migration, the scale and structure of production and the degree of income and wealth inequality are endogenously determined. The model generates a development process that has distributional characteristics consistent with those of the Kuznets hypothesis. In early stages of development agents face binding financing constraints so that production is only carried out on a small scale. Few agents earn entrepreneurial profits and the lack of competition for labor keeps the wage low. The scale of production gradually expands as the descendants of entrepreneurs face less stringent financing constraints. Income and wealth inequality become increasingly acute as the entrepreneurial rich get richer and the poor remain so. Eventually, competition for workers drives up wages. As the labor share of income rises, the quality of entrepreneurs improves and the scale of production and the profits of an entrepreneur, controlling for wealth and ability, fall. Consequently, as the development process continues, income and wealth disparities eventually decline. With no engine for technological advancement, the economy converges to an invariant, non-degenerate wealth and income distribution. The economy may even be asymptotically efficient, as the "right" entrepreneurs take on investment projects. We derive the time path of the optimal redistribution policy and detail the impact of aggregate shocks at different stages. Finally, we provide insight into why the "Kuznets curve" may appear in some economies but not in others, and how long-run fluctuations in economic activity can arise endogenously.

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File URL: http://qed.econ.queensu.ca/working_papers/papers/qed_wp_893.pdf
File Function: First version 1993
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Bibliographic Info

Paper provided by Queen's University, Department of Economics in its series Working Papers with number 893.

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Length: 75 pages
Date of creation: Dec 1993
Date of revision:
Handle: RePEc:qed:wpaper:893

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Keywords: size-distribution; heterogeneity; altruism; wealth constraints;

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  1. Summers, Robert & Kravis, Irving B. & Heston, Alan, 1984. "Changes in the world income distribution," Journal of Policy Modeling, Elsevier, vol. 6(2), pages 237-269, May.
  2. Greenwood, J. & Jovanovic, B., 1988. "Financial Development, Growth, And The Distribution Of Income," RCER Working Papers 131, University of Rochester - Center for Economic Research (RCER).
  3. Galor, Oded & Zeira, Joseph, 1988. "Income Distribution and Macroeconomics," MPRA Paper 51644, University Library of Munich, Germany, revised 01 Sep 1989.
  4. Hopenhayn, Hugo A & Prescott, Edward C, 1992. "Stochastic Monotonicity and Stationary Distributions for Dynamic Economies," Econometrica, Econometric Society, vol. 60(6), pages 1387-406, November.
  5. Ahluwalia, Montek S, 1976. "Income Distribution and Development: Some Stylized Facts," American Economic Review, American Economic Association, vol. 66(2), pages 128-35, May.
  6. Alwyn Young, 1993. "Lessons from the East Asian NICs: A Contrarian View," NBER Working Papers 4482, National Bureau of Economic Research, Inc.
  7. Andreoni, James, 1989. "Giving with Impure Altruism: Applications to Charity and Ricardian Equivalence," Journal of Political Economy, University of Chicago Press, vol. 97(6), pages 1447-58, December.
  8. Dani Rodrik, 1994. "Getting Interventions Right: How South Korea and Taiwan Grew Rich," NBER Working Papers 4964, National Bureau of Economic Research, Inc.
  9. Hadar, Josef & Russell, William R., 1971. "Stochastic dominance and diversification," Journal of Economic Theory, Elsevier, vol. 3(3), pages 288-305, September.
  10. Sappington, David, 1983. "Limited liability contracts between principal and agent," Journal of Economic Theory, Elsevier, vol. 29(1), pages 1-21, February.
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