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Increasing returns, imperfect competition and factor prices

We show how, in general equilibrium models featuring increasing returns, imperfect competition and endogenous markups, changes in the scale of economic activity affect income distribution across factors. Whenever final goods are gross-substitutes (gross- complements), a scale expansion raises (lowers) the relative reward of the scarce factor or the factor used intensively in the sector characterized by a higher degree of product differentiation and higher fixed costs. Under very reasonable hypothesis, our theory suggests that scale is skill-biased. This result provides a microfoundation for the secular increase in the relative demand for skilled labor. Moreover, it constitutes an important link among major explanations for the rise in wage inequality: skill-biased technical change, capital-skill complementarities and international trade. We provide new evidence on the mechanism underlying the skill bias of scale.

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Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 953.

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Date of creation: Jul 2004
Date of revision: Oct 2005
Handle: RePEc:upf:upfgen:953
Contact details of provider: Web page: http://www.econ.upf.edu/

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