Chicken or the Egg? Human Capital Demand and Supply

This paper discusses the apparent Italian paradox where human capital exhibits relatively low returns despite its scarcity. While a highly centralized bargaining system might explain wage compression, it is puzzling why firms, contrary to theoretical predictions, do not adopt skillintensive technologies in response to such a low price of skilled labour. A possible explanation is considered: if the labour market features a frictional matching process, high recruiting costs associated with scarcity of qualified labour can discourage firms' from opening vacancies for high-skill jobs. To explore this mechanism a simple static model is presented, in which workers' investment in education and firms' skill intensity decisions display strategic complementarities. The model has some empirical predictions: i) strong labour market frictions yield a «feedback» effect between demand and supply that can significantly curb human capital accumulation, ii) if high and low-skill labour are good substitutes multiple equilibria can arise, possibly confining the economy in a «low-skill/low education» trap. Some suggestive empirical evidence is provided: using Italian data it is shown that firms assign a larger share of workers to skilled jobs when the average educational attainment of the local labour force is higher, regardless of relative wages.