Income Distribution and Growth under A Synthesis Model of Endogenous and Neoclassical Growth

Abstract

This paper develops a model which allows us to analyze the effect of policies that influence income distribution between capitalists and workers (such as taxes and market imperfections) on the log-run growth path of an economy. More specifically, we present a heterogeneous agent model where some agents choose to be capitalists to specialize in accumulating physical capital and others become workers accumulating human capital. An important feature of this model is that it can be reduced to either an endogenous growth model or Neoclassical growth model. For a range of the parameters of technology and policy variables, the model generates a balanced growth path where capitalists continue to accumulate physical capital and workers human capital, as in AK model of endogenous growth. For a different range of parameters, the model generates a steady state along which both capitalists and workers do not increase physical or human capital any longer as in Neoclassical growth models. This model, therefore, can be viewed as a synthesis model of endogenous and neoclassical growth. An advantage of this synthesis growth model is that it allows us to explain the shift in the growth path in response to policy shocks that affect the capital-labor income distribution. This growth model explains the change in the path from sustained growth to zero growth as a regime change from endogenous growth to Neoclassical growth regime, and that from zero to sustained growth as a regime shift of the other way around. Based on the synthesis growth model, we show that changes in labor income share or government policies that make such changes may induce a shift in the growth regime and subsequent change in the balanced growth path. The policies of capital-labor income distribution include those of changing labor and capital income tax rates and regulations on monopoly or monopsony. The monopolist firms which have monopsony power in labor market can choose the wage rate rather than take it as given. Thus they may drive the wage rate down below labor productivity, which would induce a decline in labor income share and zero growth. We show that in this situation the government policy of regulating monopoly/monopsony or raising wage rates may raise labor income share, and by doing so, trigger human capital accumulation and an ensuing shift to a path of sustained growth.