Fiscal Policy, Sectoral Allocation, and the Skill Premium: Explaining the Decline in Latin America’s Income Inequality

Juan Guerra-Salas

Working Papers Central Bank of Chile from Central Bank of Chile

Abstract: This paper offers an explanation for the substantial decline in income inequality in Latin America during the 2000s, which is known to have been mainly driven by a decline in the skill premium. The 2000s were characterized by an economic expansion concentrated on low-skill-intensive service sectors. The expansion induced an increase in the demand for low-skilled labor relative to highskilled labor, which compressed the skill premium. Procyclical fiscal policy exacerbated the distributional effects of the boom by contributing to the growth of the service sector. I first document the expansion was concentrated on services while manufacturing lagged behind, and show declining inequality is associated with procyclical fiscal policy. I then rationalize the evidence using a small open economy DSGE model that features a low-skill-intensive nontradable sector relative to the tradable sector, and procyclical government purchases. This framework implies that at least part of the decline in inequality is transitory, a prediction supported by recent data

Date: 2016-02
New Economics Papers: this item is included in nep-dge, nep-lab, nep-mac and nep-pbe
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Persistent link: https://EconPapers.repec.org/RePEc:chb:bcchwp:779

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