Imperfect mobility of labor across sectors: a reappraisal of the Balassa–Samuelson effect

Abstract

Available online xxxx JEL classification: E22 F11 F41 F43 Keywords: Relative price of non tradables Sectoral wages Productivity growth Sectoral labor reallocation InvestmentThis paper investigates the relative price and relative wage effects of a higher productivity in the traded sector compared with the non traded sector in a two-sector open economy model with imperfect substitutability in hours worked across sectors. The Balassa-Samuelson (1964) model predicts that a rise in the sectoral productivity ratio by 1% raises the relative price of non tradables by 1% while leaving the non traded wage-traded wage ratio unchanged. Applying cointegration methods to a panel of fourteen OECD countries over the period 1970-2007, our estimates show that the relative price rises by only 0.78% and the relative wage falls by 0.27%. While our first set of empirical findings cast doubt on the quantitative predictions of the Balassa-Samuelson model, our second set of evidence highlights the role of imperfect labor mobility: the relative price responds more to a productivity differential between tradables and non tradables while the reaction of the relative wage is more muted in countries with higher intersectoral reallocation of labor. We show that the ability of the two-sector model to account for our evidence quantitatively relies upon two ingredients: i) imperfect mobility of labor across sectors, and ii) physical capital accumulation. Finally, our numerical results reveal that the model predicts the relative price response fairly well, and to a lesser extent the relative wage response.

Determinants of Relative Sectoral Prices: The Role of Demographic Change

“…Labour supply can be allotted to both sectors of production. Following Horvath () and Cardi and Restout (), households have a preference to work in both sectors, which drives a wedge between sectoral wages. Total labour in the utility function is defined by the CES‐aggregatewhere denotes hours worked in the tradable ( j = T ) and non‐tradable ( j = N ) sector respectively.…”

“… Cardi and Restout () demonstrate the importance of labour market rigidities for the transmission of the Balassa–Samuelson effect. …”

Rural-led exchange rate appreciation in China

“…5 This is the phenomenon whereby countries with higher productivity in tradables compared with nontradables have higher price levels of nontradables in terms of tradables. It has remained a robust …nding over many decades, as can be seen in Summers (1978, 1983), De Gregorio et al (1994), Canzoneri et al (1999), Lane and Milesi-Ferretti (2002), Kakkar (2003) and more recently in Cardi and Restout (2015). The latter is germane to our modeling.…”

“…That these relationships are only approximate re ‡ects the non-linearity of the CHINAGEM model. Table 6 implies that the predominant cause of Chinese real appreciation was changes in export productivity or quality [Column (4)]. Nevertheless, the Lewis e¤ect [Column (2)] identi…ed in this paper made a noticeable contribution to the real exchange rate movement especially under measure 2 where it accounts for around one third of the total movement.…”

“…We posit that the Household Registration (or hukou) system in China stops the ratio of marginal products falling, and, stems the ‡ow of rural workers to cities, much as primogeniture did in the setup of Hayashi and Prescott (2008). 4…”