Essays on Wage Inequality in Macroeconomics

Abstract

This collection of essays examines the effect of wage inequality on the aggregate economy and evaluates policies. In the first chapter, I evaluate the hypothesis that Skill Biased Technological Change (SBTC) leads to the decline in the firm entry rate in the United States. To the extent that people have to quit their jobs to start businesses, wages play the role of an opportunity cost of entrepreneurship. SBTC increases the skill premium and leads to an increase in the opportunity cost for college graduates to start businesses and to a decrease in the opportunity cost for high school graduates. The model can explain 21% of the actual decline in the entry rate. I conclude that SBTC is not an important factor in accounting for the decrease in the entry rate.

In the second chapter, I examine the effect of a new college subsidy scheme whose amount varies across years on enrollment, graduation, and the skill premium com- pared to the current system in which the subsidy is constant across years. I find that switching to back-loaded subsidies with the same total budget increases the number of college graduates, decreases college dropout and decreases the skill premium more than the case with increasing the total budget of the current subsidies by 50%, and are welfare improving despite the fact that enrollment decreases.

In the third chapter, I examine what is the optimal policy against the rising skill premium in a heterogeneous agent macroeconomic model in which agents make endogenous enrollment and dropout decisions. Some college enrollees in the model endogenously drop out after learning ability during college. Using this model, I derive the optimal progressive labor income tax and optimal college subsidies separately and compare the social welfare. While the effect of college subsidies is smaller than the case without learning ability, the optimal college subsidies improve social welfare more than the optimal progressive labor income tax.