Labour Market Institutions and the Personal Distribution of Income in the OECD

where r is the interest rate, w_s and w_u are respectively the (gross) skilled and unskilled wages, and

The labour share, denoted θ , is defined as the ratio of total employee compensation to value
added. With two types of workers this is simply

θ≡ w_sH + w_uL
~ Y

Defining the relative wage as ω ≡ w_s / w_u , and using equations (2) we obtain the inverse relative demand
for labour and the labour share as

β l_ 1 1

1-βH ~ 1 -β'h

(^{1 - α}) =[1+a f k 1+h

1 - a + ax ^σ      1 - al h ^β

where k = K /(H + L) is the capital-labour ratio and h = H /L the relative skilled employment. The
labour share and the relative demand for labour hence depend on the capital-labour ratio and the relative

employment ratio, that is, ω = ω(h) and θ = θ(k,h) . The comparative statics are straight forward, with

A higher relative employment ratio reduces the relative wage, while the impact of the capital-labour ratio
and relative employment on the labour share depends on the elasticity of substitution. For σ = 0 , the
labour share is simply θ = 1 - α , and neither k nor h will affect it. Our assumption of σ > 0 and
supposing, reasonably, that ω > 1, we have ∂θ / ∂k > 0 and ∂θ / ∂h < 0. That is, a higher capital-labour
ratio will increase the labour share, while greater relative skilled employment will reduce both the labour
share and the relative wage.⁴
2.1.2. Institutional determinants

If labour markets were competitive, (4) and (5) would imply that a country’s capital-labour ratio and its
relative supply of skills would be the sole determinants of the labour share and the relative wage.
However, labour markets are not competitive. Employment levels hence differ from factor supplies, and
anything that affects employment would in turn affect θ and ω . In order to understand which are the

⁴ The case where σ < 0 is discussed in Appendix I.

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