GDP Growth, OECD countries, 19701998

1
Its your life and you can do what you wantDo
what you like The Kinks, Tired Of Waiting For You
2
Wages rise with Education and work experience Is
this fair?
Median Male Income
6x
4x
Source Current Population Survey, Annual Social
and Economic Supplement, 2004
3
Short-run demand for labor W PMP VMP

Supply
MPL gt MPL
W
W
PMPL
PMPL
L0
L
4
Skill raises Marginal Product of Labor

• Work Experience
• Education

5
Real hourly compensation has increased 6x since
1900, 3x since 1950 Average Product rose 4x
6
Biggest gains are for college graduates
7
Returns to Education and Experience among
Full-Time, Year-Round Workers, Selected Ages,
19752003 (in 2003 dollars)
Real wages for high school graduates are
falling Real wages for college graduates rising
8
Why is labor productivity rising?Why is gap in
pay between low and high skill rising?
9
Long-Run Demand for Labor and Capital

• Impact of Capital on Labor Demand

10
Source The Economist June 19, 2008
11
Price of IT falling dramatically Capital use
rising
12
Long-Run Demand for Labor and Capital
Price of capital falls Incentive to substitute
capital for labor (substitution
effect) Incentive to increase scale of
production which uses more inputs (scale effect)
13
CAPITAL
If capital and labor are substitutes As price of
capital falls, demand for labor falls
K1
Q1
K0
Q0
L0
L1
LABOR
14
CAPITAL
If capital and labor are complements As price of
capital falls, demand for labor rises
K1
K0
Q1
Q0
L1
L0
LABOR
15
Role of technological change

• Complements with College
• Raises the Marginal Product of College Grads

Supply
W1
W0
P MPL
P MPL
L
16
Role of technological change

• Substitutes with High School
• Lowers the Marginal Product of High School Grads

Supply
W0
W1
P MPL
P MPL
L
17
Role of technological change

• Technological change responsible for steady
  increase in relative demand for college-educated
  workers since 1970
• In 1970s rising supply due to baby boom outpaced
  rising demand
• Since 1980, demand outpaces supply increase

18
Evidence on source of rising returns to skill

• Just finishing college is no guarantee rising
  returns to college only for those whose English
  and math skills are at college average or better
• Highest wage increase in mathematical disciplines
• Rising inequality within education and
  experience groups--

19
Starting Salaries by Major, 2007
97 gap
Is this Fair?
Source National Association of Colleges and
Employers, Fall 2007 Salary Survey
20
The Best and Worst Jobs Of 200 Jobs studied,
these came out on top -- and at the
bottom Wall Street Journal January 9, 2009
21
2007 Starting and mid-career salaries by college
type
Source PayScale Inc. cited in the Wall Street
Journal, Thursday, July 31, 2008
22
2007 Starting and mid-career salaries by college
region
Source PayScale Inc. cited in the Wall Street
Journal, Thursday, July 31, 2008
23
(No Transcript)
24
Why do wages differ

• Compensating Differential
• Wage increase that compensates workers for
  accepting bad job attributes
• Noise
• Risk
• Bad hours
• Poor location
• Wage reduction that workers are willing to accept
  to get a good job attribute
• Benefits
• Good work environment
• Pleasant location

25
Why are there persistent differences in wages
across majors?

• Compensating differential Wage increase which
  compensates workers for accepting a bad job
  attribute
• Wage difference that equates utility across majors

26
What is a fair wage?
Supply

W
At equilibrium, W VMPL
PMPL
L
L0
27
Suppose there are two majors, Funand Not Fun
Market for fun major
Supply

WF
PMPL
L
LF
28
Add Not FunMajor
Supply to Not Fun Major

Supply to Fun Majors
WF D
D Compensating Differential
WF
L
LF
29
2 Majors Fun and Not Fun
Supply to Not Fun Majors

Supply to Fun Majors
WNF
WF
Not Fun equates to math
PMPL
L
LNF
LF
30
Starting Salaries by Major, 2007
97 gap
Is this math?
Source National Association of Colleges and
Employers, Fall 2007 Salary Survey
31
Expected Starting Salaries by Major, Fall 2008
32
What if two majors are equally fun or not fun?
Petroleum Engineering
Mechanical Engineering
PMPL
PMPL
33
Workers will sort themselves across the two
majors to equalize wages
Petroleum Engineering
Mechanical Engineering
S
S
W0
W0
PMPL
PMPL
L0
L0
34
What if oil prices rise?
Petroleum Engineering
Mechanical Engineering
S
S
W0
W0
PMPL
PMPL
L0
L0
35
What if oil prices rise?Where will additional
petroleum engineers come from?
Petroleum Engineering
Mechanical Engineering
S
S
W0
W0
PMPL
PMPL
L0
L0
36
What happens if an increase in oil prices leads
to an increase in demand for Petroleum Engineers?

• Demand increase will cause wages to rise in
  Petroleum Engineering
• Some Mechanical Engineers will be induced to
  switch to Petroleum Engineering , raising wages
  in Mechanical Engineering
• Process ends when wages are again equal in both
  majors

37
Workers will sort themselves across the two
majors to equalize wages
Petroleum Engineering
Mechanical Engineering
S
S
W1
W1
W0
W0
PMPL
PMPL
L0
L1
L0
L1
38
Fair Wage

• WVMP
• Workers paid value of their marginal product
• If equal access to majors, occupations, school,
  opportunity, then fair