Foreign Capital and Skilled-unskilled Wage Inequality in a Developing Economy with Non-traded Goods

The existing theoretical literature does not take into consideration the existence of non-traded goods and the nature of capital mobility between the traded and the non-traded sectors in analyzing the consequences of liberalized investment policies on the relative wage inequality in the developing countries. The present paper purports to fill in this gap using two four-sector general equilibrium models reasonable for a developing economy. We have found that inflows of foreign capital usually improve the wage inequality when the low-skill sector is capital-intensive. But, the relative wage gap may widen if the high-skill sector is capital-intensive. When the non-traded sector produces a non-traded final commodity wage inequality worsens if the low-skill sector is capital-intensive and employs only a very small proportion of the unskilled workforce and if the primary export sector is unskilled labour-intensive. Appropriate policy recommendations for improving the wage inequality have also been made.