Wage inequality, technology and trade: 21st century evidence
Highlights
► Wage inequality has increased across almost all OECD since 1990s. ► Industries with more IT increased demand for highly educated at expense of middle educated. ► Greater Chinese imports stimulate faster technical change and this increases skill demand.
Introduction
Understanding changes in the wage distribution has been a major topic of research in labor economics over the last two decades. The stimulus for this was the huge rise in wage inequality that began in the late 1970s in the US and the UK. Adam Smith focused on human capital as an explanation for the inequality of the wage structure and the economics profession has continued in this spirit when examining recent changes.
“A man educated at the expense of much labour and time to any of those employments which require extraordinary dexterity and skill, may be compared to one of those expensive machines. The work which he learns to perform, it must be expected, over and above the usual wages of common labour, will replace to him the whole expense of his education, with at least the ordinary profits of an equally valuable capital.”1
In this paper I revisit these classic debates in light of new evidence accumulated over the first decade of the 21st Century. I argue that the canonical demand and supply model does a reasonable job at explaining the main trends in inequality between skill groups. There has been an (ongoing) demand shift towards skilled labor which was kept in check over most of the 20th Century by increases in the supply of educated workers. It was only when the accumulation of US human capital slowed down that inequality began its secular increase in the last quarter of the 20th Century (see Goldin and Katz, 2008). Thus there is a role for both demand and supply trends in accounting for changing inequality.
Although US and UK wage inequality rose monotonically in the 1980s, since the early 1990s a better description would be “polarization”. Upper tail inequality, the ln(wage) difference between the 90th percentile and the median (the “90–50”) has continued to rise, but lower tail inequality (the “50–10” ln(wage) difference between the median and the 10th percentile) has reversed or stabilized. In all OECD countries, there has been a fall in the share of occupations in the middle of the wage distribution. Not only have high quality jobs grown (bankers, lawyers, architects and economists), so have low quality jobs in the bottom third of the wage distribution (cleaners, restaurant waiting staff, hairdressers, etc.). I argue that technology may also be the explanation here — Information and Communication Technologies (ICT) substitutes for routine tasks which were originally manual jobs (like assembly line workers), but increasingly have been non-manual jobs (like clerks). Non-routine manual jobs are largely unaffected. There is more direct and indirect evidence for this task-based explanation accumulating.
The third aspect I focus on is the need to endogenize technical change. I focus on the idea that although trade with less developed countries may not have much direct effect on inequality, it may have a large indirect effect through stimulating faster innovation and diffusion. I describe recent work which uses the growth of China as the major example of an increase in import competition with a low wage country. There is strong evidence that major shocks (such as the removal of quotas following China's accession to the World Trade Organization) have a strong effect on inducing technical change and thereby altering the structure of skill demand.
The structure of the paper is as follows. Section 2 describes some of the major changes in OECD labor markets (focusing on the US and UK) and Section 3 discusses how well these can be explained in a basic supply and demand framework. Section 4 then examines the more recent evidence on polarization since the 1990s and the task-based view of technical change that seeks to explain this trend. I discuss trade-induced technical change in Section 5 before drawing some conclusions in Section 6.
One caveat to be mentioned at the outset is that in this paper I will focus on demand–supply factors rather than labor market institutions, such as trade unions and minimum wages. This is not because I think institutions are unimportant, indeed I have written much on their relevance (e.g. Draca et al., 2011). However, in terms of these major long-term trends, many of the similarities across countries suggests to me that country-specific institutions are unlikely to be the fundamental causes of such changes, as institutions differ so much between nations. In fact the institutions themselves may adapt to changes in the economic environment.2
Section snippets
Wage inequality
Fig. 1 shows the evolution of US male wage inequality since the Great Depression taken from Goldin and Katz (2008). It follows a “U-shape” with a fall in inequality from the 1935 to the mid 1950s and then stability until the 1970s whereupon inequality took off and has continued rising ever since. There is broadly a similar pattern whether we use the Gini coefficient or the “90–10”, the difference between ln(wages) at the 90th percentile and 10th percentile. Inequality rose faster from late
The canonical model
The first model in the toolkit an economist reaches for when seeking to understand these seismic shifts is supply and demand. It turns out this does not do too badly at explaining the broad trends.
Fig. 11 contains the “canonical model”. I consider the relative demand for two skill groups sub-scripted: High (“H”) and low (“L”) supplied at levels NH and NL respectively. On Panel A, relative wages of these two groups are on the y-axis and the relative employment is on the x-axis. Assuming for
Task biased technical change
The technology-based models of labor market change can be expanded to explain polarization by considering the way that ICT affects tasks. This begins with the calculations from Nordhaus (2007) that the labor cost of performing a standardized computational task has fallen by at least 1.7 trillion fold between 1850 and 2006 and that the bulk of this is the last 30 years. The key to understanding the impact of computerization is that the main thing that computers can do is to replace routine tasks.
Trade redux: trade induced technical change
So far, we have emphasized the importance of technical change as a cause of the shift in the demand for more skilled workers. An alternative story as mentioned in Section 2 is that trade could have been the culprit. The basic story is that integration with less developed countries which are relatively abundant in unskilled workers could put downwards pressure on the wages of these less skilled workers. Inequality rose because (as Richard Freeman put it) “Are your workers set in Beijing?” (
Conclusions
The increase in wage inequality has been one of the major topics in labor economics over the last two decades, stimulated by the empirical documentation of the large changes in the wage structure. Wage inequality grew very fast from the start of the 1980s in the US and UK and this seems to have spread across most other OECD countries in later years.
In this paper I have argued that technology has had an important role to play in understanding these changes, although its effect is more nuanced
Acknowledgments
This was written as the Adam Smith Lecture for the five-yearly joint conference of the European Association of Labour Economists and Society of Labor Economists in London, 2010. The work draws substantially on work with Nick Bloom, Mirko Draca, Stephen Machin, Guy Michaels and Ashwini Natraj. Tony Atkinson and Stephen Machin have given helpful comments. I would like to thank the Economic and Social Research Council for their financial support through the Centre for Economic Performance.
References (66)
Insider econometrics: a roadmap with stops along the way
Labour Economics
(2009)Technical change, inequality and the labor market
Journal of Economic Literature
(2002)Equilibrium bias of technology
Econometrica
(2008)- et al.
“Skills, tasks and technologies: implications for employment and earnings”
- et al.
Top incomes in the long run of history
Journal of Economic Literature
(2011) - Autor, David H. (2010). The Polarization of Job Opportunities in the U.S. Labor Market: Implications for Employment and...
- Autor, David and Dorn, David (2009) “Inequality and Specialization: The Growth of Low-Skill Service Jobs in the United...
- et al.
Computing inequality: have computers changed the labor market?
Quarterly Journal of Economics
(1998) - et al.
The skill content of recent technological change: an empirical exploration
Quarterly Journal of Economics
(2003) - et al.
Trends in U.S. wage inequality: revising the revisionists
The Review of Economics and Statistics
(2008)
How does information technology really affect productivity? Plant-level comparisons of product innovation, process improvement and worker skills
Quarterly Journal of Economics
Changes in the demand for skilled labor within US manufacturing industries: evidence from the annual survey of manufacturing
Quarterly Journal of Economics
Comparative advantage and heterogeneous firms
The Review of Economic Studies
Multi-product firms and product switching
The American Economic Review
Measuring and explaining management practices across firms and countries
Quarterly Journal of Economics
Information technology, workplace organization and the demand for skilled labor: firm-level evidence
Quarterly Journal of Economics
Wired for Innovation: How Information Technology is Reshaping the Economy
Skill-biased technological change and rising wage inequality: some problems and puzzles
Journal of Labor Economics
Can falling supply explain the rising return to college for younger men? A cohort-based analysis
Quarterly Journal of Economics
Skill biased organizational change
Quarterly Journal of Economics
Another nail in the coffin? Or can the trade based explanation of changing skill structures be resurrected?
The Scandinavian Journal of Economics
Labor market institutions and the distribution of wages, 1973–1992
Econometrica
The impact of the national minimum wage on firm profitability
American Economic Journal: Applied Economics
Wage and productivity dispersion in US manufacturing: the role of computer investments
Journal of Labour Economics,
The evolution of inequality in productivity and wages: panel data evidence
Industrial and Corporate Change
The impact of outsourcing and high-technology capital on wages: estimates for the US, 1979–1990
Quarterly Journal of Economics
The Overeducated American
Cited by (112)
Instrumental variable quantile regression for clustered data
2023, Econometrics and StatisticsWhat's driving the diffusion of next-generation digital technologies?
2023, TechnovationImpact of career education on high school students’ occupational choice: Evidence from a cluster-randomized controlled trial
2022, Japan and the World EconomyThe effects of asset prices on income inequality: Redistribution policy does matter
2022, Economic ModellingCitation Excerpt :Other traditional factors presumed to cause income inequalities are labor market reforms and international trade, both of which bring about income inequality because of the worsening employment situation of low-income earners. Card et al. (2004) and Lemieux et al. (2009) argued that labor market reforms are the main source of income inequality, while Van Reenen (2011) and Huang et al. (2022) focused on the expansion of international trade, which increases the wage gap between high- and low-skilled workers. Of late, more economists have begun focusing on the financial sector as the main route through which income inequality increases in advanced economies.
Distributional effect of import shocks on British local labour markets
2024, Oxford Economic Papers