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Cross-country Differences in Inequality and Growth Trends: The Role of Human Capital and Labor Market Policies

Listed author(s):
  • Serdar Ozkan

    (University of Pennsylvania)

  • Burhanettin Kuruscu

    (University of Texas at Austin)

  • Fatih Guvenen

    (University of Minnesota)

The model described here provides a central role for policies and institutions that compress the wage structure. For example, unions and progressive income taxes reduce (after-tax) wages at the higher end of the wage distribution while artificially boosting them at the lower end. As a result, they reduce the marginal benefit of investment (the higher wages in the future) relative to the cost of investment (the current forgone earnings), and hinder investment. Similarly, minimum wage laws impose an upper bound on the amount of on-the-job human capital investment, by effectively preventing firms from creating jobs that offer low initial wages (below the legal minimum) but higher training opportunities. Therefore, individuals in an economy with a compressed wage structure will not increase their investments as much as in an economy with an undistorted labor market. As a result, the model predicts that countries with more redistributive institutions (i) will not experience a large increase in inequality in the early phases of SBTC, but (ii) will also not be able to accumulate the requisite human capital, and therefore experience the growth surge that happens several decades after the onset of SBTC. At least, casual observation suggests that this prediction fits the differences between the U.S. and U.K. on one hand, and France and Germany on the other. Notice also that both growth and inequality are endogenous in this model and are determined by the interaction of SBTC with the institutions of each country. This paper investigates these predictions more systematically by explicitly introducing the variation in these policies both across countries and over time into the model above.

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Paper provided by Society for Economic Dynamics in its series 2008 Meeting Papers with number 95.

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Date of creation: 2008
Handle: RePEc:red:sed008:95
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

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  1. Katz, Lawrence F. & Autor, David H., 1999. "Changes in the wage structure and earnings inequality," Handbook of Labor Economics,in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 26, pages 1463-1555 Elsevier.
  2. Fatih Guvenen, 2007. "Learning Your Earning: Are Labor Income Shocks Really Very Persistent?," American Economic Review, American Economic Association, vol. 97(3), pages 687-712, June.
  3. Baker, Michael, 1997. "Growth-Rate Heterogeneity and the Covariance Structure of Life-Cycle Earnings," Journal of Labor Economics, University of Chicago Press, vol. 15(2), pages 338-375, April.
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