Competition, Human Capital and Income Inequality
with Limited Commitment
(with Ramon Marimon)
We develop a dynamic general equilibrium model with two-sided limited commitment to study how barriers to competition, such as restrictions to business start-up, affect the incentive to accumulate human capital. We show that the lack of contract enforceability amplifies the effect of barriers to competition on human capital accumulation. High barriers reduce the incentive to accumulate human capital by lowering the outside value of `skilled workers', while low barriers can result in over-accumulation of human capital. Over-accumulation can be
socially optimal if there are positive spillovers. A calibration exercise shows that this mechanism can account for significant cross-country income inequality.