Luis A. Fernández Intriago

A simple point that many economists miss (and nearly all non-economists) is that a falling labor share and rising wages are not in tension. In fact, it is what we should expect when the capital share rises, and capital is free to accumulate. The reason is intuitive. In the long run, the supply of capital is perfectly elastic at a gross return determined by depreciation and the discount rate: households accumulate or run down capital until its return is back there. In comparison, the supply of labor is much more inelastic. That means the gains from a technological change that makes capital more important in production (short of making it the only factor) end up with the inelastic factor, not the elastic one. In the long run, capital owners cannot get a rent from a higher capital share of output, only a compensation for their patience. We learned that from David Ricardo over two hundred years ago! To see this, consider the textbook neoclassical growth model with log utility (not needed, but it makes things easy). In the table below, I compute the steady-state wage for different values of the capital share. Increasing the capital share from 0.33 to 0.6 multiplies wages by nearly five. Capital owners receive a much larger slice of output, but the net rate of return stays at 4.7%: all the extra income has gone into more capital. Now, you might not want capital owners to have so much capital for political reasons (rich people have a curious habit of buying newspapers), but that has nothing to do with wages being lower. They are higher. I learned this lesson the hard way many years ago with my paper “Bargaining Shocks and Aggregate Fluctuations” with Thorsten Drautzburg and @pablo_guerron in the JEDC. We gave more bargaining power to capital owners (in our model, wages were not set competitively but through Nash bargaining), and workers ended up with higher wages! The logic is the same: give capital owners more power, and they compete it away. Karl Marx, by the way, already understood this. He was a much better economist than 99.99% of his followers and admirers. Like all results, this one has exceptions: I can think of environments where a technological change that makes capital more important in production does not raise wages. And the transitional dynamics can get tricky. But the basic logic is hard to escape.

A young person asked me today for a few papers that would be great to read early on in one’s career. Here is a list I came up with (I posted a shorter list earlier in reply to a comment). There are many other great papers (and I apologize if I didn’t include yours), but my goal was to focus on papers that a 21-year-old undergrad would enjoy a lot. A paper on the asymptotic properties of the bootstrap or on some subtle point about New Keynesian models, as important as it might be, is not what I am looking for. Also, of course, the list reflects my deeply biased taste. So, feel free to add in the comment section other papers you love! Philippe Aghion and Peter Howitt (1992), “A Model of Growth Through Creative Destruction,” Econometrica. George A. Akerlof (1970), “The Market for ‘Lemons’: Quality Uncertainty and the Market Mechanism,” Quarterly Journal of Economics. Armen A. Alchian (1950), “Uncertainty, Evolution, and Economic Theory,” Journal of Political Economy. William J. Baumol (1967), “Macroeconomics of Unbalanced Growth: The Anatomy of Urban Crisis,” American Economic Review. Gary S. Becker (1973), “A Theory of Marriage: Part I,” Journal of Political Economy. Douglas W. Diamond and Philip H. Dybvig (1983), “Bank Runs, Deposit Insurance, and Liquidity,” Journal of Political Economy. Xavier Gabaix (1999), “Zipf’s Law for Cities: An Explanation,” Quarterly Journal of Economics. Xavier Gabaix and Augustin Landier (2008), “Why Has CEO Pay Increased So Much?,” Quarterly Journal of Economics. Luis Garicano (2000), “Hierarchies and the Organization of Knowledge in Production,” Journal of Political Economy. Edward L. Glaeser, Bruce Sacerdote and José A. Scheinkman (1996), “Crime and Social Interactions,” Quarterly Journal of Economics. Sanford J. Grossman and Joseph E. Stiglitz (1980), “On the Impossibility of Informationally Efficient Markets,” American Economic Review. Oliver Hart and John Moore (1990), “Property Rights and the Nature of the Firm,” Journal of Political Economy. Friedrich A. Hayek (1945), “The Use of Knowledge in Society, American Economic Review. Bengt Holmström (1979), “Moral Hazard and Observability,” Bell Journal of Economics. Charles I. Jones (1995), “R&D-Based Models of Economic Growth,” Journal of Political Economy. Charles I. Jones (2005), “The Shape of Production Functions and the Direction of Technical Change,” Quarterly Journal of Economics. Michael Kremer (1993), “Population Growth and Technological Change: One Million B.C. to 1990,” Quarterly Journal of Economics. Michael Kremer (1993), “The O-Ring Theory of Economic Development,” Quarterly Journal of Economics. Paul Krugman (1991), “Increasing Returns and Economic Geography,” Journal of Political Economy. Robert E. Lucas, Jr. (1978), “On the Size Distribution of Business Firms,” Bell Journal of Economics. Kevin M. Murphy, Andrei Shleifer and Robert W. Vishny (1989), “Industrialization and the Big Push,” Journal of Political Economy. Paul M. Romer (1990), “Endogenous Technological Change,” Journal of Political Economy. Sherwin Rosen (1981), “The Economics of Superstars,” American Economic Review. Alvin E. Roth (2007), “Repugnance as a Constraint on Markets,” Journal of Economic Perspectives. Thomas C. Schelling (1971), “Dynamic Models of Segregation,” Journal of Mathematical Sociology. Andrei Shleifer and Robert W. Vishny (1993), “Corruption,” Quarterly Journal of Economics. Michael Spence (1973), “Job Market Signaling,” Quarterly Journal of Economics. Robert M. Townsend (1979), “Optimal Contracts and Competitive Markets with Costly State Verification,” Journal of Economic Theory. Martin L. Weitzman (1974), “Prices vs. Quantities,” Review of Economic Studies.