Ineuqality and Growth

From the Classical to the Modern Perspective
The Modern Perspective

The Galor-Zeira Model
Inequality and Economic Development
The Classical Paradigm

The Neoclassical Viewpoint
Inequality and the Process of Development

Oded Galor
November 30, 2010

Oded Galor


The Classical Theory
Inequality is benecial for growth (in the post-industrialization stage)

Keynes (1920), Kaldor (1957)
The marginal propensity to save increases with income

Inequality channels resources towards individuals whose marginal propensity to save is higher
=) increases aggregate savings & capital accumulation

=) enhances the development process
Oded Galor





Oded Galor





Oded Galor





Oded Galor





Oded Galor





Oded Galor


Equality and Development: Pre-Industrialization Stage
Equality may be essential for industrialization

Rosenstein-Rodan (1948), Lewis (1954), North (1959), Murphy, Shliefer and Vishny (1989)
In the absence of international demand for domestic industrial goods,

a broad distribution of income (from the leading agricultural sector)
may be critical for the emergence of industry
Oded Galor




Oded Galor




Oded Galor


The Neoclassical Paradigm
The Representative Agent Approach

Rejects the role of heterogeneity, and thus income distribution,
in economic growth
Growth Process ) Income Distribution
Income Distribution ; Growth Process
Oded Galor



in economic growth
Oded Galor



in economic growth
Oded Galor



in economic growth
Oded Galor



in economic growth
Oded Galor


Inequality and Development: KuznetsInverted U
Panel of Countries, 1960-1990. Normalized Gini coe cient after

ltering out the estimated eects of other control variables (but
log(GDP) and its square) Peak: $3320 (1985 U.S. dollars)
Oded Galor


Inequality and Development: KuznetsInverted U
Panel of Countries, 1960-1990. Normalized Gini coe cient after

ltering out the estimated eects of other control variables (but
log(GDP) and its square) Peak: $3320 (1985 U.S. dollars)
Oded Galor

The Credit market imperfection Channel

The Political Economy Channel
Socio-Political Instability
Gender Inequality
The Unied Approach
The Modern Perspective: Origins
Galor and Zeira (1988, 1993)

Unlike the Neoclassical Paradigm
Income Distribution ) the growth process
Unlike the Classical Perspective
Underlined the adverse eect of Inequality on the process
of development
Oded Galor


Gender Inequality
The Unied Approach

of development
Oded Galor


Gender Inequality
The Unied Approach

of development
Oded Galor


Gender Inequality
The Unied Approach

of development
Oded Galor


Gender Inequality
The Unied Approach

of development
Oded Galor


Gender Inequality
The Unied Approach

of development
Oded Galor


Gender Inequality
The Unied Approach
The Credit Market Imperfections Approach: Assumptions
Main assumptions:
Credit market imperfections (e.g., dierences in the interest rates
for borrowers and lenders)
and either
Fixed investment cost in education

individual-specic projects
(Galor-Zeira (1993))
or in other
(Banerjee and Newman (1993) and Aghion and Bolton (1997))
or
Saving and bequest rates are increasing function of wealth

(e.g., subsistence consumption constraint)
Oded Galor
Galor and Moav (RES 2004)


Gender Inequality
The Unied Approach
Main assumptions:
and either

or in other
or

Oded Galor


Gender Inequality
The Unied Approach
Main assumptions:
and either

or in other
or

Oded Galor


Gender Inequality
The Unied Approach
Main assumptions:
and either

or in other
or

Oded Galor


Gender Inequality
The Unied Approach
Main assumptions:
and either

or in other
or

Oded Galor


Gender Inequality
The Unied Approach
The Credit Market Imperfections Approach: Mechanism
Inequality aects occupational choices skilled vs. unskilled workers (entrepreneurs vs. workers)
Non-poor economies:
Inequality =) Under-investment traps: under-investment in human capital (invt projects) that is transmitted across generations =) lower output growth in the short-run and in the longrun
Poor economies:
Inequality may permit some investment in HC (invt projects)
and may thus promote output growth
The human capital channel is consistent with evidence
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
Non-poor economies:
Poor economies:
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
Non-poor economies:
Poor economies:
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
Non-poor economies:
Poor economies:
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
Non-poor economies:
Poor economies:
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
The CMI Approach: Additional Mechanisms
Segregation and Neighborhood Eects

Inequality permits the segregation of individuals into homogenous communities
Local externalities in the production of HC =) persistent inequality (Benabou (1996), Durlauf (1996), Fernandez and Rogerson (1996)
Mobility and Social Status

Inequality generates an ine cient allocation of talents across
occupations via:
limited intergenerational mobility (Galor-Tsiddon (1997))
Displacement of poor, high-ability individual by rich,
low-ability individuals, if social status is associated with
education (Ferstman, Murphy and Weiss (1996))
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach


occupations via:
Oded Galor


Gender Inequality
The Unied Approach
The Political Economy Approach
Echoes the hypothesis of the CMI Approach

Inequality is harmful for the growth process
Inequality =) Political pressure for redistribution
Higher (distortionary) taxation =) lower investment and
slower economic growth
Alesina and Rodrik, (2004) Persson and Tebelini (2004
This channel is inconsistent with evidence
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
The Political Economy Approach: An Alternative Channel

Inequality =) incentive for better endowed agents to lobby
against redistribution
E cient redistribution policies are not implemented
Benabou, (2000, 2002), Galor-Moav-Vollrath (2009)
Oded Galor


Gender Inequality
The Unied Approach

Oded Galor


Gender Inequality
The Unied Approach

Oded Galor


Gender Inequality
The Unied Approach

Oded Galor


Gender Inequality
The Unied Approach
The Socio-Political Instability Approach

Inequality =) Socio-Political instability
Socio-Political instability =) reduces the security of property
rights =) lower investment and slower economic growth
(Alesina and Perotti (1996))
This channel is consistent with evidence
Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach

Oded Galor
(Perotti (1996))


Gender Inequality
The Unied Approach
Gender Inequality
Gender inequality is harmful for the growth process

Galor-Weil (AER 1996)
Gender inequality reduces the opportunity cost of raising

children more than it reduces household income
=) increases fertility
=) reduces human capital investment (quantity-quality trade-o)
=) lowers female labor force participation
=) slows the growth process
Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
Gender Inequality


Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach
A unied theory of inequality and economic development

(Galor and Moav (2004):
Captures the changing role of inequality in the growth process

Unies the Classical and the Modern Paradigms
Provides an intertemporal reconciliation between conicting
viewpoints about the eect of inequality on economic growth
Underlines the role of inequality in triggering socio-political
transition (Galor-Moav-Vollrath (2009), Galor-Moav (2006))
Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach


Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach


Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach


Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach


Oded Galor


Gender Inequality
The Unied Approach
The Unied Approach


Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Inequality and Skill Composition
Skill Composition and Income Per Capita
Overlapping-Generations economy
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
t = 0; 1; 2; 3; :::
One good
3 factors:
K
Ls
Lu
Physical capital
Skilled Labor
Unskilled Labor
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Production
Total output produced

Yt = Yts + Ytu
Production in the skilled-intensive sector:

Yts = F (Kt ; Lst )
Lst f (kt );
kt
Kt =Lst
Production in the unskilled-intensive sector:

Ytu = aLut
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Production

Yt = Yts + Ytu

Yts = F (Kt ; Lst )
Lst f (kt );
kt
Kt =Lst

Ytu = aLut
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Production

Yt = Yts + Ytu

Yts = F (Kt ; Lst )
Lst f (kt );
kt
Kt =Lst

Ytu = aLut
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Production

Yt = Yts + Ytu

Yts = F (Kt ; Lst )
Lst f (kt );
kt
Kt =Lst

Ytu = aLut
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Inverse Demand for Factors
Capital:
rt = f 0 (kt )
r (kt )
Skilled labor:
wts = f (kt )
f 0 (kt )kt
w s (kt )
Unskilled labor:
wtu = a
Oded Galor
wu

Individuals
Occupational Choice
Bequest Dynamics
Capital:
rt = f 0 (kt )
r (kt )
Skilled labor:
wts = f (kt )
f 0 (kt )kt
w s (kt )
Unskilled labor:
wtu = a
Oded Galor
wu

Individuals
Occupational Choice
Bequest Dynamics
Capital:
rt = f 0 (kt )
r (kt )
Skilled labor:
wts = f (kt )
f 0 (kt )kt
w s (kt )
Unskilled labor:
wtu = a
Oded Galor
wu

Individuals
Occupational Choice
Bequest Dynamics
Factor Prices
Small open economy

World interest = r
=)
rt = r
kt = f 0 1 (r )
wts = w s (k)
k
ws
=)
(rt ; wts ; wtu ) = (r ; w s ; w u )
Oded Galor
8t

Individuals
Occupational Choice
Bequest Dynamics
Factor Prices
Small open economy

World interest = r
=)
rt = r
kt = f 0 1 (r )
wts = w s (k)
k
ws
=)
(rt ; wts ; wtu ) = (r ; w s ; w u )
Oded Galor
8t

Individuals
Occupational Choice
Bequest Dynamics
Factor Prices
Small open economy

World interest = r
=)
rt = r
kt = f 0 1 (r )
wts = w s (k)
k
ws
=)
(rt ; wts ; wtu ) = (r ; w s ; w u )
Oded Galor
8t

Individuals
Occupational Choice
Bequest Dynamics
Factor Prices
Small open economy

World interest = r
=)
rt = r
kt = f 0 1 (r )
wts = w s (k)
k
ws
=)
(rt ; wts ; wtu ) = (r ; w s ; w u )
Oded Galor
8t

Individuals
Occupational Choice
Bequest Dynamics
Individuals
Continuum of measure 1
Each Individual has 1 parent and 1 child
Identical in:
Preferences
Innate abilities
Dier in:
Parental income ) Invt in HC
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Individuals
Identical in:
Preferences
Innate abilities
Dier in:
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Individuals
Identical in:
Preferences
Innate abilities
Dier in:
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Individuals
Identical in:
Preferences
Innate abilities
Dier in:
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Individuals
Identical in:
Preferences
Innate abilities
Dier in:
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Member of Generation t: Period of Life
First period of life (Period t):

[invest in HC] or [work as unskilled]
Second period of life (Period t + 1):

[work as unskilled / no invt in HC] or [work as skilled / invt
in HC in 1st period]
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics


Oded Galor

Individuals
Occupational Choice
Bequest Dynamics


Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Member of Generation t: Endowment and Preferences
Time endowment:
1 units of time in each period
Capital endowment:
bt
capital inherited in 1st period
Preferences:
ut =
ln ct+1 + (1
Oded Galor
) ln bt+1
2 (0; 1)

Individuals
Occupational Choice
Bequest Dynamics
Time endowment:
Capital endowment:
bt
Preferences:
ut =
ln ct+1 + (1
Oded Galor
) ln bt+1
2 (0; 1)

Individuals
Occupational Choice
Bequest Dynamics
Time endowment:
Capital endowment:
bt
Preferences:
ut =
ln ct+1 + (1
Oded Galor
) ln bt+1
2 (0; 1)

Individuals
Occupational Choice
Bequest Dynamics
Time endowment:
Capital endowment:
bt
Preferences:
ut =
ln ct+1 + (1
Oded Galor
) ln bt+1
2 (0; 1)

Individuals
Occupational Choice
Bequest Dynamics
Member of Generation t: Budget Constraint
Second period budget constraint:

ct+1 + bt+1
! t+1
ct+1
consumption
bt+1
transfers to ospring
! t+1
wealth in period t + 1
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

ct+1 + bt+1
! t+1
ct+1
consumption
bt+1
! t+1
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

ct+1 + bt+1
! t+1
ct+1
consumption
bt+1
! t+1
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

ct+1 + bt+1
! t+1
ct+1
consumption
bt+1
! t+1
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Member of Generation t: Optimization
fct+1 ; bt+1 g = arg max[ ln ct+1 + (1

s.t.
Oded Galor
ct+1 + bt+1
) ln bt+1 ]
! t+1

Individuals
Occupational Choice
Bequest Dynamics
bt+1 = (1
)! t+1
ct+1 = ! t+1
Indirect Utility: =)
vt
ln ! t+1 + (1
= [ ln
+ (1
) ln ! t+1
) ln(1
)] + ln ! t+1
=) v t is monotonic increasing in 2nd period wealth, ! t+1

=) maximization of ! t+1 ; is the basis of occupational choices
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
bt+1 = (1
)! t+1
ct+1 = ! t+1
vt
ln ! t+1 + (1
= [ ln
+ (1
) ln ! t+1
) ln(1
)] + ln ! t+1

Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
bt+1 = (1
)! t+1
ct+1 = ! t+1
vt
ln ! t+1 + (1
= [ ln
+ (1
) ln ! t+1
) ln(1
)] + ln ! t+1

Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
bt+1 = (1
)! t+1
ct+1 = ! t+1
vt
ln ! t+1 + (1
= [ ln
+ (1
) ln ! t+1
) ln(1
)] + ln ! t+1

Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
bt+1 = (1
)! t+1
ct+1 = ! t+1
vt
ln ! t+1 + (1
= [ ln
+ (1
) ln ! t+1
) ln(1
)] + ln ! t+1

Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Fundamental Assumptions
Imperfect Capital Markets:

r <i
(A1)
interest rate for lender
interest rate for borrowers (for invt in HC)
Fixed cost of education (Indivisibility of invt in HC)
Weighted
average of the payments to teachers, administrators, and maintenance workers in the school system (i.e.,
weighted average of the wages skilled and unskilled workers):
C H = w s + (1
)w u
Oded Galor
h>0
2 [0; 1]
(A2)

Individuals
Occupational Choice
Bequest Dynamics
Fundamental Assumptions
Imperfect Capital Markets:

r <i
(A1)
interest rate for lender
interest rate for borrowers (for invt in HC)
Fixed cost of education (Indivisibility of invt in HC)
Weighted
average of the payments to teachers, administrators, and maintenance workers in the school system (i.e.,
weighted average of the wages skilled and unskilled workers):
C H = w s + (1
)w u
Oded Galor
h>0
2 [0; 1]
(A2)

Individuals
Occupational Choice
Bequest Dynamics
Income: Unskilled Individuals
! ut+1 = (w u + bt )(1 + r ) + w u
= w u (2 + r ) + (1 + r )bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
! ut+1 = (w u + bt )(1 + r ) + w u
= w u (2 + r ) + (1 + r )bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
! ut+1 = (w u + bt )(1 + r ) + w u
= w u (2 + r ) + (1 + r )bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Income: Skilled Individuals
! st+1 =
=)
! st+1 =
8 s
< w
:
(h
bt )(1 + i) if
bt
w s + (bt
h)(1 + r ) if
bt
8 s
< w
:
ws
(1 + i)h + (1 + i)bt
if
bt
(1 + r )h + (1 + r )bt
if
bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
! st+1 =
=)
! st+1 =
8 s
< w
:
(h
bt )(1 + i) if
bt
w s + (bt
h)(1 + r ) if
bt
8 s
< w
:
ws
(1 + i)h + (1 + i)bt
if
bt
(1 + r )h + (1 + r )bt
if
bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Assumptions
Investment in human capital is not benecial for individuals

who must nance the entire cost of education via borrowing
ws
(1 + i)h < 0
(A3)
Investment in human capital is benecial for individuals who

can nance the entire cost of education without borrowing
ws
(1 + r )h > w u (2 + r )
Oded Galor
(A4)

Individuals
Occupational Choice
Bequest Dynamics
Assumptions
Investment in human capital is not benecial for individuals

who must nance the entire cost of education via borrowing
ws
(1 + i)h < 0
(A3)
Investment in human capital is benecial for individuals who

can nance the entire cost of education without borrowing
ws
(1 + r )h > w u (2 + r )
Oded Galor
(A4)

Individuals
Occupational Choice
Bequest Dynamics
Income from Being Unskilled Worker
tu+1 = wu (2 + r ) + (1 + r )bt
wu ( 2 + r )
bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Income from Being Unskilled Worker
tu+1 = wu (2 + r ) + (1 + r )bt
tu+1
wu ( 2 + r )
(1 + r )
bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Income from Being Skilled Worker: Borrowers
ws ( 1 + i)h < 0
(A3)
tu+1
wu ( 2 + r )
(1 + r )
bt
w s (1 + i )h
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
ts+1 = ws (1 + i )h + (1 + i )bt if bt h
tu+1
wu ( 2 + r )
(1 + r )
bt
w s (1 + i )h
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
ts+1 = ws (1 + i )h + (1 + i )bt if bt h
tu+1
ws
wu ( 2 + r )
(1 + r )
(1 + i )
w (1 + i )h
s
h
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
ws ( 1 + r)h > wu( 2 + r)
(A4)
tu+1
ws
wu (2 + r ) + (1 + r )h
wu ( 2 + r )
(1 + r )
(1 + i )
w (1 + i )h
s
h
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
Income from Being Skilled Worker: Lenders
ts+1 = ws (1 + r )h + (1 + r )bt if bt h
(1 + r )
ws
wu ( 2 + r )
ts+1
tu+1
(1 + r )
(1 + i )
w (1 + i )h
s
h
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
Bequest and Occupational Choice
ts+1 = s (bt )
tu+1 = u (bt )
wu ( 2 + r )
w s (1 + i )h
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
ts+1 = s (bt )
tu+1 = u (bt )
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
bt
8
< <f
:
>f
u
s
! xt+1
> xt+1
(individual t becomes unskilled)
u
s
< xt+1
(individual t becomes skilled)
! xt+1
where
f =
w u (2 + r )
[w s
i r
Oded Galor
(1 + i)h]
>0

Individuals
Occupational Choice
Bequest Dynamics
bt
8
< <f
:
>f
u
s
! xt+1
> xt+1
(individual t becomes unskilled)
u
s
< xt+1
(individual t becomes skilled)
! xt+1
where
f =
w u (2 + r )
[w s
i r
Oded Galor
(1 + i)h]
>0

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics
bt+1 = (1
bt+1
8
(1
>
>
>
>
<
(1
=
>
>
>
>
:
(1
)xt+1
)[w u (2 + r ) + (1 + r )bt ]
bt 2 [0; f ]
)[w s
(1 + i)h + (1 + i)bt ]
bt 2 [f ; h]
)[w s
(1 + r )h + (1 + r )bt ] bt 2 [h; 1]
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics
bt+1 = (1
bt+1
8
(1
>
>
>
>
<
(1
=
>
>
>
>
:
(1
)xt+1
)[w u (2 + r ) + (1 + r )bt ]
bt 2 [0; f ]
)[w s
(1 + i)h + (1 + i)bt ]
bt 2 [f ; h]
)[w s
(1 + r )h + (1 + r )bt ] bt 2 [h; 1]
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics: Su ciet Conditions for Multiplicity of Steady-Sate
(1
)(1 + r ) < 1
(A5)
(1
)(1 + i) > 1
(1
Oded Galor
)w s > h
(A6)

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics
bt +1
(bt )
(1 ) ws
(1 )(1 + r )
(1 )(1 + i )
(1 ) w (2 + r )
u
(1 )(1 + r )
f
Oded Galor
bt

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics: Multiple Steady-State Equilibrium
bt +1
(bt )
bu
g
Oded Galor
bs
bt

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics: Stability of High Bequest Equilibrium
bt +1
(bt )
bu
g
Oded Galor
bs
bt

Individuals
Occupational Choice
Bequest Dynamics
Bequest Dynamics: Stability of Steady- State Equilibria
bt +1
(bt )
bu
g
Oded Galor
bs
bt

Individuals
Occupational Choice
Bequest Dynamics
The Distribution of the Inheritance in Period t
(b0 )
bt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
Income Distribution and the Long Run Decomposition of the Labor Force
t (bt )
Distribution of inheritance at time t
=)
Lt =
(bt )dbt
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics
The Distribution of the Inheritance in Period t
L0 1
(b0 )
bt
Oded Galor
Individuals
Occupational Choice
Bequest Dynamics

Income Distribution of the Long Run Decomposition of the Labor Force
limt!1 ltu =
limt!1 lts =
where
Rg
0
R1
g
t (bt )dbt
lu
t (bt )dbt
ls
@ l s =@g < 0
and
g=
(1
)[(1 + i)h
(1
)(i + i)
Oded Galor
ws]
>0
1
Individuals
Occupational Choice
Bequest Dynamics

limt!1 ltu =
limt!1 lts =
where
Rg
0
R1
g
t (bt )dbt
lu
t (bt )dbt
ls
@ l s =@g < 0
and
g=
(1
)[(1 + i)h
(1
)(i + i)
Oded Galor
ws]
>0
1
Individuals
Occupational Choice
Bequest Dynamics

limt!1 ltu =
limt!1 lts =
where
Rg
0
R1
g
t (bt )dbt
lu
t (bt )dbt
ls
@ l s =@g < 0
and
g=
(1
)[(1 + i)h
(1
)(i + i)
Oded Galor
ws]
>0
1
Individuals
Occupational Choice
Bequest Dynamics

Income Distribution of Skill Composition
bt +1
(bt )
bu
bt
bs
lu
g
Oded Galor
(b0 )
bb
t
t
Individuals
Occupational Choice
Bequest Dynamics

Income Distribution of Skill Composition
g
Oded Galor
(b0 )
bt

Individuals
Occupational Choice
Bequest Dynamics
Income Per Capita in the Long Run

Income of a skilled individual in the second period of life (wage and
capital income)
I2s = w s + (b s
h)r
Income of an unskilled individual in the second period of life (wage

and capital income)
I2u = w u + (b u + w u )r
Income of an unskilled individual in the rst period of life (only

wage income)
I1u = w u
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

capital income)
I2s = w s + (b s
h)r

and capital income)
I2u = w u + (b u + w u )r

wage income)
I1u = w u
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

capital income)
I2s = w s + (b s
h)r

and capital income)
I2u = w u + (b u + w u )r

wage income)
I1u = w u
Oded Galor

Individuals
Occupational Choice
Bequest Dynamics

Aggregate income in the steady-state
Y = I2s l s + I2u l u + I1u l u

Aggregate income (note: l s + l u = 1)
Y
= [w s
rh + r b s ]l s + [w u (2 + r ) + r b u ](1
= w u (2 + r ) + r b u + [(w s
rh)
ls)
w u (2 + r ) + (b s
Income per capita

y = Y =2
Oded Galor
b u )]l s

Individuals
Occupational Choice
Bequest Dynamics


Y
= [w s
rh + r b s ]l s + [w u (2 + r ) + r b u ](1
= w u (2 + r ) + r b u + [(w s
rh)
ls)
w u (2 + r ) + (b s
Income per capita

y = Y =2
Oded Galor
b u )]l s

Individuals
Occupational Choice
Bequest Dynamics


Y
= [w s
rh + r b s ]l s + [w u (2 + r ) + r b u ](1
= w u (2 + r ) + r b u + [(w s
rh)
ls)
w u (2 + r ) + (b s
Income per capita

y = Y =2
Oded Galor
b u )]l s
Individuals
Occupational Choice
Bequest Dynamics

Skill Composition and Income Per Capita in the Long Run
An increase in the fraction of skilled workers increases income

per capita in the steady-state
@y
= [(w s
@l s
since
rh)
w u (2 + r ) + (b s
ws
b u )]=2 > 0
(1 + r )h > w u (2 + r )
bs > bu
An increase in g reduces income per capita in the steady-state
@y
@y @ l s
= s
<0
@g
@ l @g
Oded Galor
Individuals
Occupational Choice
Bequest Dynamics


@y
= [(w s
@l s
since
rh)
w u (2 + r ) + (b s
ws
b u )]=2 > 0
(1 + r )h > w u (2 + r )
bs > bu
@y
@y @ l s
= s
<0
@g
@ l @g
Oded Galor
Individuals
Occupational Choice
Bequest Dynamics


@y
= [(w s
@l s
since
rh)
w u (2 + r ) + (b s
ws
b u )]=2 > 0
(1 + r )h > w u (2 + r )
bs > bu
@y
@y @ l s
= s
<0
@g
@ l @g
Oded Galor

Robustness
Inequality and Development: Rich Economies
bt +1
(bt )
bu
bs
bt
g
Oded Galor
bt
bt

Robustness
Rich Economies: Inequality is Harmful for Development
Inequality reduces human capital formation

bt +1
(bt )
bu
bs
bt
g bt
Oded Galor
bt

Robustness
bt +1
(bt )
bu
bs
bt
g bt
Oded Galor
bt

Robustness
g
Oded Galor
bt
bt

Robustness
Inequality and Development: Poor Economies
bt +1
(bt )
bu
bs
bt
bt g
Oded Galor
bt

Robustness
Poor Economies: Inequality may Benet Development
Inequality stimulates human capital formation

bt +1
(bt )
bu
bs
bt g
Oded Galor
bt
bt

Robustness
Poor Economies: Inequality may Benet Development
bt
g
Oded Galor
bt

Robustness
Robustness
The qualitative results are robust to:

Education cost that is indexed to wages
Labor augmenting technical change
Shocks the outcome of investment in human capital, as long
as wages are endogenous
Concave production function of human capital (Moav (EL,
2002), Galor-Moav (RES, 2004))
Oded Galor

Robustness
Robustness

Oded Galor

Robustness
Robustness

Oded Galor

Robustness
Robustness

Oded Galor

Robustness
Robustness: Technological Progress and Endogenous Education Cost
Labor Augmenting Technological Progress: increases the productivity

of workers in both the skilled-intensive and the unskilled intensive sector.
Production in the skilled-intensive sector
Yts = F (Kt ; At Lst )
At Lst f (kt );
kt
Kt =At Lst
Production in the unskilled-intensive sector

Ytu = At aLut
Technological progress
At+1 = (1 + )At
Oded Galor
> 0:

Robustness

At Lst f (kt );
kt
Kt =At Lst

Ytu = At aLut
At+1 = (1 + )At
Oded Galor
> 0:

Robustness

At Lst f (kt );
kt
Kt =At Lst

Ytu = At aLut
At+1 = (1 + )At
Oded Galor
> 0:

Robustness
Factor Prices
wts = At [f (k)
wtu = At a
f 0 (k)k]
At w s
At w u
rt = r
Oded Galor

Robustness
Cost of Education
Weighted average of the payments to teachers, administrators, and

maintenance workers in the school system
) Weighted average of the wages skilled and unskilled workers

CtH = At w s + (1
Oded Galor
)At w u
At h

Robustness
Cost of Education


CtH = At w s + (1
Oded Galor
)At w u
At h

Robustness
Cost of Education


CtH = At w s + (1
Oded Galor
)At w u
At h

Robustness
u
xt+1
= (At w u + bt )(1 + r ) + At+1 w u
= At w u (2 + r + ) + (1 + r )bt
Oded Galor

Robustness
u
xt+1
= (At w u + bt )(1 + r ) + At+1 w u
= At w u (2 + r + ) + (1 + r )bt
Oded Galor

Robustness
s
xt+1
=)
s
xt+1
8
< At+1 w s
:
(At h
bt
At h
At h)(1 + r ) if
bt
At h
(1 + i)h] + (1 + i)bt
if
bt
At h
(1 + r )h] + (1 + r )bt
if
bt
At h
At+1 w s + (bt
8
< At [w s (1 + )
:
bt )(1 + i) if
At [w s (1 + )
Oded Galor

Robustness
s
xt+1
=)
s
xt+1
8
< At+1 w s
:
(At h
bt
At h
At h)(1 + r ) if
bt
At h
(1 + i)h] + (1 + i)bt
if
bt
At h
(1 + r )h] + (1 + r )bt
if
bt
At h
At+1 w s + (bt
8
< At [w s (1 + )
:
bt )(1 + i) if
At [w s (1 + )
Oded Galor

Robustness
Threshold level of Bequest for Becoming Skilled Worker in Period t
f =
At fw u (2 + r )
ft
At fw u (2 + r )
=
At
[w s
[w s
(w s
(1 + i)h]
(i r )
(1 + i)h]
(i r )
(w s
w u )g
w u )g
f^ > 0
for
w u (2 + r ) > [w s (1 + i)h] + (w s w u )
Oded Galor

Robustness
f =
At fw u (2 + r )
ft
At fw u (2 + r )
=
At
[w s
[w s
(w s
(1 + i)h]
(i r )
(1 + i)h]
(i r )
(w s
w u )g
w u )g
f^ > 0
for
w u (2 + r ) > [w s (1 + i)h] + (w s w u )
Oded Galor

Robustness
f =
At fw u (2 + r )
ft
At fw u (2 + r )
=
At
[w s
[w s
(w s
(1 + i)h]
(i r )
(1 + i)h]
(i r )
(w s
w u )g
w u )g
f^ > 0
for
w u (2 + r ) > [w s (1 + i)h] + (w s w u )
Oded Galor

Robustness
Bequest Dynamics
bt+1
8
(1
>
>
>
>
<
(1
=
>
>
>
>
:
(1
)fAt w u (2 + r + ) + (1 + r )b t g
bt 2 [0; f ]
)fAt [w s (1 + )
(1 + i)h] + (1 + i)b t g
bt 2 [f ; At h]
)fAt [w s (1 + )
(1 + r )h] + (1 + r )b t g bt 2 [At h; 1]
Oded Galor

Robustness
Bequest Dynamics
Let b^t+1
b^t+1
bt+1 At+1
i
8 h
1
>
fw u (2 + r + ) + (1 + r )b^t g
>
1+
>
>
>
>
>
< h
i
1
=
f[w s (1 + ) (1 + i)h] + (1 + i)b^t g
1+
>
>
>
>
>
h
i
>
>
: 1
f[w s (1 + ) (1 + r )h] + (1 + r )b^t g
1+
b^t 2 [0; (f^)]

b^t 2 [f^; h]
b^t 2 [h; 1]
) The dynamical system is unaected qualitatively by labor-augmenting
technological progress
Oded Galor

Robustness
Bequest Dynamics
Let b^t+1
b^t+1
bt+1 At+1
i
8 h
1
>
fw u (2 + r + ) + (1 + r )b^t g
>
1+
>
>
>
>
>
< h
i
1
=
f[w s (1 + ) (1 + i)h] + (1 + i)b^t g
1+
>
>
>
>
>
h
i
>
>
: 1
f[w s (1 + ) (1 + r )h] + (1 + r )b^t g
1+
b^t 2 [0; (f^)]

b^t 2 [f^; h]
b^t 2 [h; 1]
) The dynamical system is unaected qualitatively by labor-augmenting
technological progress
Oded Galor

Robustness
Su cient Conditions for Multiple Steady-States
(1
)(1 + r ) < (1 + )
(1
)(1 + i) > (1 + )
w s (1 + )
(1 + i)h < 0
) The system is characterized by multiple steady-state, where the

unstable equilibrium
g^ =
(1
)[(1 + i)h w s (1 + )]
>0
[(1
)(i + i) (1 + )]
Oded Galor

Ineuqality and Growth

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Ineuqality and Growth

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From the Classical to the Modern Perspective

The Modern Perspective

The Classical Paradigm

Inequality and the Process of Development

November 30, 2010

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

The Classical Theory

Inequality is benecial for growth (in the post-industrialization stage)

The marginal propensity to save increases with income

=) increases aggregate savings & capital accumulation

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

Equality and Development: Pre-Industrialization Stage

Equality may be essential for industrialization

In the absence of international demand for domestic industrial goods,

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

Equality and Development: Pre-Industrialization Stage

Equality may be essential for industrialization

In the absence of international demand for domestic industrial goods,

Inequality and the Process of Development

From the Classical to the Modern Perspective

The Classical Paradigm

Equality and Development: Pre-Industrialization Stage