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Mass versus Exclusive Goods, and Formal-Sector Employment

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  • Reto Foellmi
  • Josef Zweimüller

Abstract

We explore how the underemployment problem of less-developed economies is related to income inequality. Our crucial assumption is that consumers have non-homothetic preferences over differentiated products of formal-sector goods and thus that inequality affects the composition of aggregate demand via the price-setting behavior of formal-sector firms. We find that (i) high inequality divides the formal sector into mass producers (which charge low prices that are within the reach of the poor) and exclusive producers (which charge high prices and sell only to the rich); (ii) high inequality generates an equilibrium where many workers are crowded into the informal economy; and (iii) an increase in subsistence productivity raises the wages of unskilled workers and boosts employment due to the higher purchasing power of poorer households.

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Bibliographic Info

Paper provided by Universitaet Bern, Departement Volkswirtschaft in its series Diskussionsschriften with number dp1005.

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Date of creation: Feb 2010
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Handle: RePEc:ube:dpvwib:dp1005

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Keywords: Income distribution; monopolistic competition; mark-ups; exclusion;

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  1. Oded Galor & Omer Moav, 2004. "From Physical to Human Capital Accumulation: Inequality and the Process of Development," GE, Growth, Math methods 0410005, EconWPA.
  2. Reto Foellmi & Manuel Oechslin, . "Who Gains From Non-Collusive Corruption?," IEW - Working Papers 142, Institute for Empirical Research in Economics - University of Zurich.
  3. Chong, Alberto & Gradstein, Mark, 2006. "Inequality and Informality," CEPR Discussion Papers 5545, C.E.P.R. Discussion Papers.
  4. Sleuwaegen, Leo & Goedhuys, Micheline, 2002. "Growth of firms in developing countries, evidence from Cote d'Ivoire," Journal of Development Economics, Elsevier, vol. 68(1), pages 117-135, June.
  5. d'Aspremont, Claude & Dos Santos Ferreira, Rodolphe & Gerard-Varet, Louis-Andre, 1990. "On Monopolistic Competition and Involuntary Unemployment," The Quarterly Journal of Economics, MIT Press, vol. 105(4), pages 895-919, November.
  6. Falkinger, Josef, 1994. "An Engelian model of growth and innovation with hierarchic consumer demand and unequal incomes," Ricerche Economiche, Elsevier, vol. 48(2), pages 123-139, June.
  7. Chol-Won Li., . "Inequality and Growth: A Schumpeterian Perspective," Working Papers 9609, Business School - Economics, University of Glasgow, revised Feb 1998.
  8. Silvestre, Joaquim, 1990. "There May Be Unemployment When the Labour Market Is Competitive and the Output Market Is Not," Economic Journal, Royal Economic Society, vol. 100(402), pages 899-913, September.
  9. Foellmi, Reto & Zweimüller, Josef, 2005. "Income Distribution and Demand-Induced Innovations," CEPR Discussion Papers 4985, C.E.P.R. Discussion Papers.
  10. Silvestre, Joaquim, 1993. "The Market-Power Foundations of Macroeconomic Policy," Journal of Economic Literature, American Economic Association, vol. 31(1), pages 105-41, March.
  11. Flam, Harry & Helpman, Elhanan, 1987. "Vertical Product Differentiation and North-South Trade," American Economic Review, American Economic Association, vol. 77(5), pages 810-22, December.
  12. Devashish Mitra & Vitor Trindade, 2003. "Inequality and Trade," NBER Working Papers 10087, National Bureau of Economic Research, Inc.
  13. Diego Winkelried, 2005. "Income Distribution and the Size of the Informal Sector," Development and Comp Systems 0512005, EconWPA.
  14. Dehez, Pierre, 1985. "Monopolistic equilibrium and involuntary unemployment," Journal of Economic Theory, Elsevier, vol. 36(1), pages 160-165, June.
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