Munich Personal RePEc Archive

Productive government investment and the labor share

Bom, Pedro R.D. and Erauskin, Iñaki (2021): Productive government investment and the labor share.

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A recent body of literature has sought to determine the causes of the global decline of the labor share. We study the role played by government investment—which has also fallen in many advanced economies over the past few decades—in the labor share decline. We first establish a theoretical link between government investment and the labor share using a general equilibrium macroeconomic model, where government capital enters the production function in a factor-augmenting fashion. Our analytic results show that a permanent cut to government investment causes a steady-state decline in the labor share if the elasticity of substitution between private capital and labor is less than one and public capital augments private capital. We then study the empirical relationship between these variables using two panel datasets covering 79 countries, both developing and developed, over the period 1970-2017. Using a system GMM estimator, we find a positive and statistically significant association between government investment and the labor share in advanced economies; for developing countries, however, we find no effect.

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