This paper explores the implications for less developed countries o
the hypothesis that workers' productivity depends on the wages they
receive. In particular, we show that this hypothesis may explain the
high urban wages and unemployment found in many such countries.
The market equilibrium is shown not to be pareto efficient. If the
government could not control urbaxv'rural migration, but could control
wages and urban employment, it would, in general, set wages and
employment levels differently. The sources of Inefficiency are
identified. The (constrained) pareto optimal policy can be implemented
via taxes and subsidies; but two instruments (both specific and ad
valorern wage tax/subsidies) are required.
More generally, policy changes will affect both the urban wage and
the level of unemployment, and these consequences need to be taken into
accounce, both In the determination of shadow wages to be used in cost
benefit analysis and In the analysisis of the incidence of any set of
taxes and subsIdIes. The shadow price of labor may differ markedly from
what it would be if wages were arbitrarily fixed and there were no
migration. In particular, in the special case of the Harris-Todaro migration model, with fixed rural wages and productivity depending only on the absolute wage received, the shadow wage is the market wage, regardless of the relative evaluation of current and future consumption. Shadow prices under other specifications of the wage-productlvlty
relationship are analyzed.
*Published:
Modern Developments in Public Finance, edited by Michael J. Boskin. Oxford: Basil Blackwell, pp. 130-165.
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