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Labor Unions, Directed Technical Change and Cross-Country Income Inequality

Chu, Angus C. and Cozzi, Guido and Furukawa, Yuichi (2014): Labor Unions, Directed Technical Change and Cross-Country Income Inequality.

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This study explores the macroeconomics effects of labor unions in a two-country model of directed technical change in which the market size of each country determines the incentives for innovation. We find that an increase in the bargaining power of a wage-oriented union leads to a decrease in employment in the domestic economy. This result has two important implications on innovation. First, it reduces the rates of innovation and economic growth. Second, it causes innovation to be directed to the foreign economy, which in turn causes a negative effect on domestic wages relative to foreign wages in the long run. We also calibrate our model to data in the US and the UK to explore the quantitative implications of labor unions on social welfare and wage inequality across countries. Our calibrated model is able to explain about half of the decrease in relative wage between the US and the UK from 1980 to 2007. Furthermore, as a result of the decrease in unions' bargaining power, welfare improves in the two countries. The welfare gains are equivalent to a permanent increase in consumption of 5.4% in the US and 8.3% in the UK.

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