GEP Research Paper 08/19
Fairness, Trade, and Inequality
Hartmut Egger and Udo Kreickemeier
Summary
We develop a model of international trade between two symmetric countries that features both inter-group and intra-group income differences between individuals. We analyse the effect of trade on inequality, welfare and unemployment.
Abstract
We develop a model of international trade between two symmetric countries that features inter-group inequality between entrepreneurs and workers, and also intra-group inequality within each of those two groups. Individuals in the economy are heterogeneous with respect to their entrepreneurial ability, and firms run by more able entrepreneurs have a higher productivity level and make higher profits. There is rent-sharing at the firm level due to fair wage preferences of workers, and hence firms with higher profits pay higher wages in equilibrium in order to elicit their workers' full effort. We show that in this framework international trade increases income inequality between entrepreneurs and workers, and also inequality within these two subgroups of individuals, as measured by the respective Gini coefficients. Involuntary unemployment increases, but so does aggregate welfare.
Issued in May 2008
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