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Article

The Economics of International Wage Differentials and Migration  

Lant Pritchett and Farah Hani

The key question for the economics of international migration is whether observed real wage differentials across countries for workers with identical intrinsic productivity represent an economic inefficiency sustained by legal barriers to labor mobility between geographies. A simple comparison of the real wages of workers with the same level of formal schooling or performing similar occupations across countries shows massive gaps between rich and poorer countries. These gaps persist after adjusting for observed and unobserved human capital characteristics, suggesting a “place premium”—or space-specific wage differentials that are not due to intrinsic worker productivity but rather are due to a misallocation of labor. If wage gaps are not due to intrinsic worker productivity, then the incentive for workers to move to richer countries is high. The idea of a place premium is corroborated by macroeconomic evidence. National accounts data show large cross-country output per worker differences, driven by the divergence of total factor productivity. The lack of convergence in total factor productivity and corresponding spatial productivity differentials create differences in the marginal product of factors, and hence persistent gaps in the wages of equal productivity workers. These differentials can equalize with factor flows; however their persistence and large magnitude in the case of labor, suggest legal barriers to migration restricting labor flows are in fact constraining significant return on human capital, and leaving billions in unrealized gains to the world’s workers and global economy. A relaxation of these barriers would generate worker welfare gains that dwarf gold-standard poverty reduction programs.

Article

Heterogeneous Firms, Trade Liberalization, and Welfare  

Alan Spearot

While the modern theory of international trade allows for many different modeling assumptions, the gains from trade can often be calculated using a common set of statistics. In particular, the share of a country’s output that is consumed domestically, the elasticity of bilateral trade with respect to trade costs, and the relationship between markups and firm size, each have a clear role in the gains from integration. All of these statistics may also be structurally linked to the degree of firm heterogeneity, usually the dispersion in firm-level productivity. Accordingly, the presence of firm heterogeneity may have a meaningful impact on the welfare response to trade liberalization. A quantitative application of a common firm heterogeneity model indicates that increased dispersion of firm-level productivity has a disproportionately large and positive impact on the gains from trade for smaller, less-developed countries.

Article

The Economics of Cognitive Aging  

Fabrizio Mazzonna and Franco Peracchi

Population aging, the combined effect of declining fertility and rising life expectancy, is one of the fundamental trends observed in developed counties and, increasingly, in developing countries as well. A key aspect of the aging process is the decline of cognitive ability. Cognitive aging is an important and complex phenomenon, and its risk factors and economic consequences are still not well understood. For instance, the relationship between cognitive aging and productivity matters for long-term economic growth. Cognitive functioning is also crucial for decision-making because it influences individuals’ ability to process information and to make the right choices, and older individuals are increasingly required to make complex financial, health, and long-term-care decisions that might affect their health, resources, and welfare. This article presents evidence from economics and other fields that have investigated this phenomenon from different perspectives. A common empirical finding is the hump-shaped profile of cognitive performance over the life cycle. Another is the large variability of observed age profiles, not only at the individual level but also across sociodemographic groups and countries. The age profiles of cognitive performance also vary depending on the cognitive task considered, reflecting the different combinations of cognitive skills that they require. The literature usually distinguishes between two main types of cognitive skills: fluid intelligence and crystallized intelligence. The first consists of the basic mechanisms of processing new information, while the second reflects acquired knowledge. Unlike fluid intelligence, which declines rapidly as people get older, crystallized intelligence tends to be maintained at older ages. Differences in the age profiles of cognitive performance across tasks partly reflect differences in the importance of these two types of intelligence. For instance, tasks where learning, problem-solving, and processing speed are essential tend to be associated with a faster decline, while tasks where experience matters more tend to be associated with a slower decline. Various life events and behaviors over the life cycle also contribute to the large heterogeneity in the observed age profiles of cognitive performance. This source of variation includes not only early-life events and investments (e.g., formal education), but also midlife and later-life events (e.g., health shocks) and individual choices (e.g., health behaviors or retirement). From an economic viewpoint, cognitive abilities may be regarded as one dimension of human capital, along with education, health, and noncognitive abilities. Economists have mainly focused their attention on human capital accumulation, and much less so on human capital deterioration. One explanation is that early-life investments appears to be more profitable than investments later in life. However, recent evidence from neuropsychology suggests that the human brain is malleable and open to enhancement even later in adulthood. Therefore, more economic research is needed to study how human capital depreciates over the life cycle and whether cognitive decline can be controlled.

Article

Economic Development in Spain, 1815–2017  

Leandro Prados de la Escosura and Blanca Sánchez-Alonso

In assessments of modern-day Spain’s economic progress and living standards, inadequate natural resources, inefficient institutions, lack of education and entrepreneurship, and foreign dependency are frequently blamed on poor performance up to the mid-20th century, but no persuasive arguments were provided to explain why such adverse circumstances reversed, giving way to the fast transformation that started in the 1950s. Hence, it is necessary to first inquire how much economic progress has been achieved in Spain and what impact it had on living standards and income distribution since the end of the Peninsular War to the present day, and second to provide an interpretation. Research published in the 2010s supports the view that income per person has improved remarkably, driven by increases in labor productivity, which derived, in turn, from a more intense and efficient use of physical and human capital per worker. Exposure to international competition represented a decisive element behind growth performance. From an European perspective, Spain underperformed until 1950. Thereafter, Spain’s economy managed to catch up with more advanced countries until 2007. Although the distribution of the fruits of growth did not follow a linear trend, but a Kuznetsian inverted U pattern, higher levels of income per capita are matched by lower inequality, suggesting that Spaniards’ material wellbeing improved substantially during the modern era.

Article

Growth Econometrics  

Jonathan R. W. Temple

Growth econometrics is the application of statistical methods to the study of economic growth and levels of national output or income per head. Researchers often seek to understand why growth rates differ across countries. The field developed rapidly in the 1980s and 1990s, but the early work often proved fragile. Cross-section analyses are limited by the relatively small number of countries in the world and problems of endogeneity, parameter heterogeneity, model uncertainty, and cross-section error dependence. The long-term prospects look better for approaches using panel data. Overall, the quality of the evidence has improved over time, due to better measurement, more data, and new methods. As longer spans of data become available, the methods of growth econometrics will shed light on fundamental questions that are hard to answer any other way.

Article

Trade Liberalization and Informal Labor Markets  

Lourenço S. Paz and Jennifer P. Poole

In recent decades, economic reforms and technological advances have profoundly altered the way employers do business—for instance, the nature of employment relationships, the skills firms demand, and the goods and services they produce and export. In many developing economies, these changes took place concurrently with a substantive rise in work outside of the formal economy. According to International Labour Organization estimates, informal employment can be as high as 88% of total employment in India, almost 50% in Brazil, and around 35% of employment in South Africa. Such informal employment is typically associated with lower wages, lower productivity, poorer working conditions, weaker employment protections, and fewer job benefits and amenities, and these informal workers are often poorer and more vulnerable than their counterparts in the formalized economy. Informal jobs are a consequence of labor market policies—like severance payments or social security contributions—that make the noncompliant informal job cheaper for the employer than a compliant formal job. Each model has a different benefit (or lack of punishment) for employing formal workers, and a distinct mechanism through which international trade shocks alter the benefit-cost of these types of jobs, which in turn results in a change in the informality share. The empirical literature concerning international trade and formality largely points to an unambiguous increase in informal employment in the aftermath of increased import competition. Interestingly, increased access to foreign markets, via liberalization of major trading partners, offers strongly positive implications for formal employment opportunities, decreasing informality. Such effects are moderated by the de facto enforcement of labor regulations. Expansions toward the formal economy and away from informal wage employment in the aftermath of increased access to foreign markets are smaller in strictly enforced areas of the country.

Article

Purchasing Power Parity and Real Exchange Rates  

Menzie D. Chinn

The idea that prices and exchange rates adjust so as to equalize the common-currency price of identical bundles of goods—purchasing power parity (PPP)—is a topic of central importance in international finance. If PPP holds continuously, then nominal exchange rate changes do not influence trade flows. If PPP does not hold in the short run, but does in the long run, then monetary factors can affect the real exchange rate only temporarily. Substantial evidence has accumulated—with the advent of new statistical tests, alternative data sets, and longer spans of data—that purchasing power parity does not typically hold in the short run. One reason why PPP doesn’t hold in the short run might be due to sticky prices, in combination with other factors, such as trade barriers. The evidence is mixed for the longer run. Variations in the real exchange rate in the longer run can also be driven by shocks to demand, arising from changes in government spending, the terms of trade, as well as wealth and debt stocks. At time horizon of decades, trend movements in the real exchange rate—that is, systematically trending deviations in PPP—could be due to the presence of nontraded goods, combined with real factors such as differentials in productivity growth. The well-known positive association between the price level and income levels—also known as the “Penn Effect”—is consistent with this channel. Whether PPP holds then depends on the time period, the time horizon, and the currencies examined.

Article

Technology, Productivity, and Costs in Healthcare  

Albert A. Okunade and Ahmad Reshad Osmani

Healthcare cost encompasses expenditures on the totality of scarce resources (implicit and explicit) given up (or allocated) to produce healthcare goods (e.g., drugs and medical devices) and services (e.g., hospital care and physician office services are major components). Healthcare cost accounting components (sources and uses of funds) tend to differ but can be similar enough across most of the world countries. The healthcare cost concept usually differs for consumers, politicians and health policy decision-makers, health insurers, employers, and the government. All else given, inefficient healthcare production implies higher economic cost and lower productivity of the resources deployed in the process. Healthcare productivity varies across health systems of the world countries, the production technologies used, regulatory instruments, and institutional settings. Healthcare production often involves some specific (e.g., drugs and medical devices, information and communication technologies) or general technology for diagnosing, treating, or curing diseases in order to improve or restore human health conditions. In the last half century, the different healthcare systems of the world countries have undergone fundamental transformations in the structural designs, institutional regulations, and socio-economic and demographic dimensions. The nations have allocated a rising share of total economic resources or incomes (i.e., Gross National Product, or GDP) to the healthcare sector and are consequently enjoying substantial increases in population health status and life expectancies. There are complex and interacting linkages among escalating healthcare costs, longer life expectancies, technological progress (or “the march of science”), and sectoral productivities in the health services sectors of the advanced economies. Healthcare policy debates often concentrate on cost-containment strategies and search for improved efficient resource allocation and equitable distribution of the sector’s outputs. Consequently, this contribution is a broad review of the body of literature on technological progress, productivity, and cost: three important dimensions of the evolving modern healthcare systems. It provides a logical integration of three strands of work linking healthcare cost to technology and research evidence on sectoral productivity measurements. Finally, some important aspects of the existing study limitations are noted to motivate new research directions for future investigations to explore in the growing health sector economies.

Article

Value-Added Estimates of Teacher Effectiveness: Measurement, Uses, and Limitations  

Jessalynn James and Susanna Loeb

Since the turn of the 21st century, an abundant body of research has demonstrated that teachers meaningfully contribute to their students’ learning but that teachers vary widely in their effectiveness. Measures of teachers’ “value added” to student achievement have become common, and sometimes controversial, tools for researchers and policymakers hoping to identify and differentiate teachers’ individual contributions to student learning. Value-added measures aim to identify how much more a given teacher’s students learn than what would be expected based on how much other, similar students learn with other teachers. The question of how to measure value added without substantial measurement error and without incorrectly capturing other factors outside of teachers’ control is complex and sometime illusory, and the advantages and drawbacks to any particular method of estimating teachers’ value added depend on the specific context and purpose for their use. Traditionally, researchers have calculated value-added scores only for the subset of teachers with students in tested grades and subjects—a relatively small proportion of the teaching force, in a narrow set of the many domains on which teachers may influence their students. More recently, researchers have created value-added estimates for a range of other student outcomes, including measures of students’ engagement and social-emotional learning such as attendance and behavioral incidences, which may be available for more teachers. Overall, teacher value-added measures can be useful tools for understanding and improving teaching and learning, but they have substantial limitations for many uses and contexts.

Article

The Economic Implications of Training for Firm Performance  

Pedro S. Martins

A small literature on the relationship between employee training and firm performance is currently emerging. This line of research is particularly promising given the underexplored potential of training to drive productivity, wages, and employment. Until recently, training was regarded as a costly and risky investment because workers may leave their firm after being trained. However, studies on labor and education economics have found that training results in high returns for firms and that the costs of training can be recouped in a relatively short time. These results follow from different econometric identification approaches, including a small but growing number of randomized controlled trials. Moreover, most training is of a general nature and therefore applicable in other firms, which is at odds with the original theory of training but consistent with novel models that emphasize labor market power. There are a number of possibilities for future research, including a better understanding of the heterogeneity and patterns of training contents and formats across firms and workers, the differentiation of the effects of training along such dimensions, the role of labor market competition in driving training, the extent to which the productivity effects of training are shared with employees, the role of labor market institutions (including minimum wage, collective bargaining, and occupational licensing) in the dimensions above, and the firm performance effects of training provided to unemployed job seekers (as opposed to employees). Evaluation of the public training programs developed during the Covid-19 pandemic crisis and new forms of training in the context of the growth of remote work also merit further investigation.

Article

Happiness and Productivity in the Workplace  

Mahnaz Nazneen and Daniel Sgroi

Happiness has become an important concept in economics as a target for government policy at the national level. This is mirrored in an increasing understanding of the microeconomic effects of increased happiness. While correlational studies have for many years documented a relationship between individual-level happiness and productivity, more recent work provides causal evidence that a positive shock to happiness can boost productivity significantly. These studies include three strands of research. The first provides a number of longitudinal surveys that have generated evidence linking happiness to productivity but run the risk of confounding happiness with other related variables that may be driving the relationship. The second includes laboratory experiments that simulate a workplace under tightly controlled conditions, and this strand has established a clear relationship between positive happiness shocks and rises in productivity. The third involves examining experimental field data, which sacrifices the control of laboratory experiments but offers greater realism. However, there is still work to be done generalizing these findings to more complex work environments, especially those that involve cooperative and team-based tasks where increases in happiness may have other consequences.

Article

Knowledge Spillovers, Trade, and Foreign Direct Investment  

Wolfgang Keller

This article explores knowledge spillovers, positive externalities that augment the information set of an economic agent, and reviews the evidence on such spillovers in the context of international economic transactions. The entry discusses trade channels of knowledge transfer associated with purchases from abroad (imports) and sales to abroad (exports). Another focus is on the foreign direct investment (FDI) channel through purchases from abroad (inward FDI) and sales to abroad (outward FDI). The entry also distinguishes knowledge flows from foreign to domestic agents and from domestic to foreign agents. The entry underlines the importance of empirical methodology and data characteristics that determine the quality of econometric identification. Even though spillovers are by their very nature—as externalities—difficult to identify, over recent decades a number of advances have produced robust evidence that both trade and foreign direct investment lead to sizable knowledge spillovers. These advances have been both conceptual as well as in the areas of empirical methodology and new data.

Article

A Review of the Effects of Pay Transparency  

Emma Duchini, Stefania Simion, and Arthur Turrell

An increasing number of countries have introduced pay transparency policies with the aim of reducing gender inequality in the labor market. Firms subject to transparency requirements must disclose publicly or to employees’ representatives information on their employees’ pay broken down by gender, or indicators of gender gaps in pay and career outcomes. The argument at the base of these policies is that gender inequality may in part persist because it is hidden. On the one hand, employers rarely keep track of employees’ pay and career progression by gender, and, on the other hand, employees rarely engage in conversations with their colleagues about pay. The lack of information on within-firm disparities by gender may therefore hamper progress toward a more egalitarian labor market. Transparency policies have the potential to improve women’s relative pay and career outcomes for two reasons. First, by increasing the salience of gender gaps in the labor market, they can alter the relative bargaining power of male and female employees vis-à-vis the firm and lead lower-paid individuals to demand higher pay from their employer. Second, together with pressures from employees, the public availability of information on firms’ gender-equality performance may also increase public pressure for firms’ action in this domain. A clear message emerges from the literature analyzing the impact of pay transparency policies on gender inequality: these policies are effective at pushing firms to reduce their gender pay gaps, although this is achieved via a slowdown of men’s wage growth. Related results point to a reduction in labor productivity following the introduction of transparency mandates but no detrimental effect on firms’ profits because this effect is compensated by the reduction in labor costs. Overall, the findings in this literature suggest that transparency policies can reduce the gender pay gap with limited costs for firms but may not be suited to achieve the objective of improving outcomes for lower-paid employees.

Article

Health and Economic Growth  

David E. Bloom, Michael Kuhn, and Klaus Prettner

The strong observable correlation between health and economic growth is crucial for economic development and sustained well-being, but the underlying causality and mechanisms are difficult to conceptualize. Three issues are of central concern. First, assessing and disentangling causality between health and economic growth are empirically challenging. Second, the relation between health and economic growth changes over the process of economic development. In less developed countries, poor health often reduces labor force participation, particularly among women, and deters investments in education such that fertility stays high and the economy remains trapped in a stagnation equilibrium. By contrast, in more developed countries, health investments primarily lead to rising longevity, which may not significantly affect labor force participation and workforce productivity. Third, different dimensions of health (mortality vs. morbidity, children’s and women’s health, and health at older ages) relate to different economic effects. By changing the duration and riskiness of the life course, mortality affects individual investment choices, whereas morbidity relates more directly to work productivity and education. Children’s health affects their education and has long-lasting implications for labor force participation and productivity later in life. Women’s health is associated with substantial intergenerational spillover effects and influences women’s empowerment and fertility decisions. Finally, health at older ages has implications for retirement and care.