DP4451 Earnings Inequality and the Business Cycle

Author(s): Gadi Barlevy, Daniel Tsiddon
Publication Date: June 2004
Keyword(s): business cycles, great depression, human capital, income inequality, stochastic Ben Porath model, wage inequality
JEL(s): E32, J24, J31, N10, N30, O15
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4451

Economists have long viewed recessions as contributing to increasing inequality. This conclusion is largely based on data from a period in which inequality was increasing over time, however. This Paper examines the connection between long-run trends and cyclical variation in earnings inequality. We develop a model in which cyclical and trend inequality are related, and find that in our model, recessions tend to amplify long-run trends, i.e. they involve more rapidly increasing inequality when long-run inequality is increasing, and more rapidly decreasing inequality when long-run inequality is decreasing. In support of this prediction, we present evidence that during the first half of the 20th century when earnings inequality was generally declining, earnings disparities indeed appeared to fall more rapidly in downturns, at least among workers at the top of the earnings distribution.