Underdevelopment, Skilled Labor and Multiple Equilibria

Abstract

In this model, while firms exhibit constant returns to scale, the entire economy exhibits increasing returns to scale due to positive skilled labor externalities, which make feasible the existence of multiple steady states that can be ordered in a Paretian sense, which is useful to reflect on development issues. This model, predicting that marginal productivity of capital is equal in all countries, gives an answer to the capital allocation puzzle (Lucas, 1990). Another prediction of the model is that skilled labor productivity is greater in developed countries than in the underdeveloped countries, providing an important factor in explaining skilled labor migration towards rich countries. It also explains how a country with agents who experience no asymmetries of information, no irrational behaviour, and no credit constraints, could be trapped in a low fixed points where only small amounts of capital are invested, low wages are paid, productivity of skilled workers is low, and most of the labor force is unskilled.