Monday, September 17, 2012

Why has the labor income share declined?

Over the past two years, much has been said about the increasing disparity of incomes across all OECD countries and how the middle class is shrinking. At least some of this evolution can be traced to the shrinking share of labor income in national income. The question, of course, is then why the labor share is decreasing. Is the economy becoming more capital intensive, as a Cobb-Douglas production function would imply? Or is globalization putting downward pressure on wages across the OECD countries?

Andrea Bassanini and Thomas Manfredi perform an analysis of the evolution of the labor share in 20 sectors of 25 countries over three decades. According to their data, about 80% of the change can be explained by a change in production technology: capital has become more important and has replaced some labor. The rest can be attributed to international competition, privatization, and the off-shore transfer of production facilities. Deregulation and its impact on domestic competition has no effect on the labor share, though.

Given these results, should we then resist technological change to preserve a sufficient labor income? This is the old Luddite argument that sought to hinder an evolution that ultimately improved the quality of life in tremendous ways. If we think about it to the extreme, why should we prevent the Star-Trek utopia of the replicator technology that produces goods without much human intervention? That labor income is then low is not important, as long as there is sufficient redistribution if capital income is highly concentrated.

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