Understanding permanent black-white earnings inequality
Average annual earnings of black US households have remained at around half the average earnings of white households for more than 30 years. Why are the earnings of black households so low compared to those of white households? Why can blackwhite earnings inequality of such magnitude be permanent? This paper provides a quantitative answer based on neighborhood effects. The economic and demographic characteristics of neighborhoods and the distribution of earnings are determined endogenously from the location and investment decisions of altruistic parents. Permanent racial inequality arises from residential segregation by race and earnings coupled with neighborhood effects that impact the productivity of parental investments. The model is calibrated by targeting observed segregation by race, segregation by earnings, housing price differences across neighborhoods, intergenerational earnings mobility, and the magnitude of parental investments in children. The benchmark steady state earnings distribution accounts for .72 of the observed black-white percent difference in household earnings. The paper argues that local housing markets, local human capital externalities and racial neighborhood preferences are necessary ingredients in explaining permanent black white inequality.
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