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Labour shares, inequality, and the relative price of capital

By November 25, 2014No Comments | November 25, 2014

At least since Kaldor (1961), the constancy of the labour share of income has been considered one of the key foundations underlying macroeconomic models. In Karabarbounis and Neiman (2014a), we documented a global decline in the share of labour compensation in gross income (‘gross labour share’) since 1975 and emphasised the role of declining investment prices for this trend. Piketty (2014) and Piketty and Zucman (2014) also discussed this factor share movement and linked it to increases in the capital–output ratio. Their theory focuses on labour compensation in net income (‘net labour share’), which excludes depreciation. The rationale is that depreciation is not consumed and, therefore, the net labour share may more closely approximate inequality between workers and capitalists.

Summers (2014) and Rognlie (2014) emphasise that the net labour share is likely to increase even if the gross labour share decreases. If capital and labour are sufficiently substitutable in gross production, a decline in the real interest rate will reduce the cost of capital and cause a large enough increase in the real capital–output ratio to reduce the gross labour share. Summers and Rognlie correctly note that if the value of depreciation increases in proportion with the capital–output ratio, it will cause the net labour share to increase relative to the gross labour share. For realistic values of parameters, this likely causes the net labour share to rise even when the gross labour share falls.


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