Politico Economic Consequences of Rising Wage Inequality

38 Pages Posted: 13 Sep 2010

See all articles by Philip Dean Corbae

Philip Dean Corbae

University of Wisconsin - Madison - Department of Finance, Investment and Banking

Pablo D'Erasmo

University of Maryland - College Park; Federal Reserve Banks - Federal Reserve Bank of Philadelphia

Burhanettin Kuruscu

University of Toronto - Department of Economics

Date Written: September 12, 2010

Abstract

This paper uses a dynamic political economy model to evaluate whether the observed rise in wage inequality and decrease in median to mean wages can explain some portion of the relative increase in transfers to low earnings quintiles and relative increase in effective tax rates for high earnings quintiles in the U.S. over the past several decades. Speci´Čücally, we assume that households have uninsurable idiosyncratic labor effciency shocks and consider policy choices by a median voter which are required to be consistent with a sequential equilibrium. We choose the transition matrix to match observed mobility in wages between 1978 to 1979 in the PSID dataset and then evaluate the response of social insurance policies to a new transition matrix that matches the observed mobility in wages between 1995 and 1996 and is consistent with the rise in wage inequality and the decrease in median to mean wages between 1979 to 1996. We deal with the problem that policy outcomes affect the evolution of the wealth distribution (and hence prices) by approximating the distribution by a small set of moments. We contrast these numbers with those from a sequential utilitarian mechanism, as well as mechanisms with commitment.

Suggested Citation

Corbae, Philip Dean and D'Erasmo, Pablo N. and Kuruscu, Burhanettin, Politico Economic Consequences of Rising Wage Inequality (September 12, 2010). Available at SSRN: https://ssrn.com/abstract=1676024 or http://dx.doi.org/10.2139/ssrn.1676024

Philip Dean Corbae

University of Wisconsin - Madison - Department of Finance, Investment and Banking ( email )

975 University Avenue
Madison, WI 53706
United States
512-471-3211 (Phone)
512-471-3510 (Fax)

Pablo N. D'Erasmo

University of Maryland - College Park ( email )

College Park, MD 20742
United States

Federal Reserve Banks - Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States

Burhanettin Kuruscu (Contact Author)

University of Toronto - Department of Economics ( email )

Toronto, Ontario M5S 3G8
Canada

HOME PAGE: http://https://sites.google.com/site/bkuruscu

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