1. Nick Bloom, Stanford University, Labor Topics, 2015 1 LABOR TOPICS Nick Bloom Skill Biased Technical Change (SBTC)

2. Nick Bloom, Stanford University, Labor Topics, 2015 2 Why care about skill-biased technical change? It is a major topic in the literature – over 100 papers in the last two decades. There are a number of outstanding questions on this that careful micro-data work can address Key political phenomena – Governments around the world have faced criticism that their economic policies have increased earnings inequality

3. Nick Bloom, Stanford University, Labor Topics, 2015 3 Even at the AEA

4. Nick Bloom, Stanford University, Labor Topics, 2015 4 Why this SBTC occurred Skill Biased Technical Change (SBTC) Changes in wage equality

5. Nick Bloom, Stanford University, Labor Topics, 2015 5 Wage inequality over time Source: Autor, Katz and Kearney (2008, RESTAT)

6. Nick Bloom, Stanford University, Labor Topics, 2015 6 Wage inequality has been rising over time In the US wage (and consumption) inequality has risen since the 1960s Note the fall in female wage discount despite rising labor participation Source: Autor, Katz and Kearney (2008, RESTAT)

7. Nick Bloom, Stanford University, Labor Topics, 2015 7 What about by education: college/high school Source: Autor, Katz and Kearney (2008, RESTAT) Residual inequality is the variance of the error term (e i,t ) from a Mincer wage equation:Log(w i,t ) = α+β t X i,t +e i,t

8. Nick Bloom, Stanford University, Labor Topics, 2015 8 This occurred throughout the period from 1960s Source: Autor, Katz and Kearney (2008, RESTAT) Note: The CPS data is available both from the NBER data section, and Census data from the Michigan IPUMS data site. Residual inequality is the variance of the error term (e i,t ) from a Mincer wage equation:Log(w i,t ) = α+β t X i,t +e i,t

9. Nick Bloom, Stanford University, Labor Topics, 2015 9 This increase in inequality was particularly a phenomena of the top half of the earnings distribution Source: Autor, Katz and Kearney (2008, RESTAT)

10. Nick Bloom, Stanford University, Labor Topics, 2015 10 This increase in inequality was particularly a phenomena of the top half of the earnings distribution Source: Autor, Katz and Kearney (2008, RESTAT)

11. Nick Bloom, Stanford University, Labor Topics, 2015 11 Source: Autor, Katz and Kearney (2008, RESTAT) This increase in inequality was particularly a phenomena of the top half of the earnings distribution

12. Nick Bloom, Stanford University, Labor Topics, 2015 12 Inequality also rising across educational groups Source: Autor, Katz and Kearney (2007, RESTAT) In a standard Mincerian regression the returns to a year of education rose from about 7.5% in 1980 to about 10% by 1995.

13. Nick Bloom, Stanford University, Labor Topics, 2015 13 At the same time the quantity of ‘skills’ has increased Source: Acemoglu (2002, JEL)

14. Nick Bloom, Stanford University, Labor Topics, 2015 The increase in skills happened both across and within industries 14 Autor, Katz and Krueger (1998, QJE)

15. Nick Bloom, Stanford University, Labor Topics, 2015 The skills increase also happened within plants 15 Source: Dunne, Haltiwanger and Troske (1997, Carnegie Rochester Conference Series )

16. Nick Bloom, Stanford University, Labor Topics, 2015 16 The international evidence SBTC seems to have afflicted both global superpower nations UK US Other much less important Anglo-Saxon countries (Canada and Australia) also experienced a similar phenomena Across Europe there has been a more moderate wage experience – but typically more inequality in unemployment Consistent with the idea that institutions constrained wages in Europe so movements in unemployment occur instead

17. Nick Bloom, Stanford University, Labor Topics, 2015 17 Why this SBTC occurred SBTC caused this change in inequality Changes in wage equality

18. Nick Bloom, Stanford University, Labor Topics, 2015 18 What has caused this within and between group changes in inequality? A summary response (1)Technology changes in much of the 20 th century have been skill biased (2)This SBTC may have accelerated since the 1970s (3)The supply of skilled workers accelerated in the 1970s but slowed from the 1980s onwards Thus, skills demand has outstripped supply, particularly since the 1980s, raising between group (high/low education) inequality The same phenomena has also probably also occurred for unmeasured skills, raising within group inequality from 1970s onwards

19. Nick Bloom, Stanford University, Labor Topics, 2015 19 Why has technology been skilled biased (1/2)? There is no need for technological changes to be skill biased The industrial revolution in England increased the use of factories employing low skilled workers at the expense of craftsmen Luddite rebellions of 1811 and 1812 were in response to falling wages of skilled weavers as factories replaced traditional weaving Ned Ludd – probably a fictional character but the movement was a major issue for the British, and even during the Napoleonic wars required extensive troops to surpress

20. Nick Bloom, Stanford University, Labor Topics, 2015 20 Why has technology been skilled biased (2/2)? The support for 20 th Century SBTC is empirical – there has been a massive increase in the supply of skills (educated workers) at the same time as skilled wages has risen, at least since 1970s. This has happened in every sector of the economy – so a universal rise in both the quantity and price of skills. This must be a demand shift Evidence that SBTC driven earlier in the century due to electrification (Goldin & Katz, 1998 & 2007)

21. Nick Bloom, Stanford University, Labor Topics, 2015 21 Over the 20 th century skills premia has fluctuated Source: Goldin & Katz (2007) Variation in returns mainly due to change in relative supply of skilled and unskilled workers

22. Nick Bloom, Stanford University, Labor Topics, 2015 In fact “computerization” has a long history 22

23. Nick Bloom, Stanford University, Labor Topics, 2015 And is now so central because it is 40% of capital investment 23

24. Nick Bloom, Stanford University, Labor Topics, 2015 There have actually been 2 technological revolutions: The Green Revolution and the Industrial Revolution 24

25. Nick Bloom, Stanford University, Labor Topics, 2015 25 Back to the increase in the returns to skills – how should we model this? The traditional Solow model is skill neutral in technical change: Y=AK α L β H γ But the prior evidence suggests a strong skill biased component.

26. Nick Bloom, Stanford University, Labor Topics, 2015 26 Skill Biased Technical Change (SBTC) Can extend the Solow model to skilled and unskilled labor L=[(A s L s ) σ + (A u L u ) σ ] 1/σ <1 SBTC in this setup would be the ratio A s /A u rising over time Can substitute into a production function & re-arrange in terms of wage premium. Katz and Murphy (1992, QJE) did this and estimated the following regression implied by this production function: Ln(W s /W u )= β 0 + β 1 (L C /L HS ) + D t + e t They found β 1 ≈-2/3 and D t about 2.5% (2% on figures to 2005) Suggests that labor supply clearly matters, but there has been a steady trend favoring skilled labor over the last 40 years.

27. Nick Bloom, Stanford University, Labor Topics, 2015 27 Trends in college/high-school labor supply Source: Acemoglu and Autor, (2010) Skill rose strongly in 1970s because: Vietnam draft laws Higher education expansion interacting with post-war baby boom Can see 1970s rise in skills supply and falls in relative skilled wages against long-run trend

28. Nick Bloom, Stanford University, Labor Topics, 2015 28 Katz & Murphy (1992) results (updated by AA 2010) Source: Autor, Katz & Kearney (2008, RESTAT) Once you detrend skills supply and relative wages the relationship is clear. Need to interpret cautiously, though, as only about 40 observations with serially correlated errors So predicted college/high school wage gap from a trend plus college/high-school skills supply looks a good fit But - need to interpret cautiously, as only about 40 observations with serially correlated errors

29. Nick Bloom, Stanford University, Labor Topics, 2015 29 Why this SBTC occurred SBTC caused this change in inequality Changes in wage equality

30. Nick Bloom, Stanford University, Labor Topics, 2015 30 Why did this SBTC occur?

31. Nick Bloom, Stanford University, Labor Topics, 2015 31 Why did this SBTC occur - summary? (1)Proximate cause appears to be cheaper capital and/or computers (2)But why is this skill-biased? Several arguments: a)Skills directly complement physical capital b)Skills directly complements computer capital c)Skills needed for rapid change – post 1970s had rapid change (3)Other factors that appear to play an additional (more minor) role: Labor market institutions (minimum wage and Unions) Trade with developing countries, e.g. China (4)But why did capital (particularly PCs) become cheaper? One view is the direction of technology is endogenous – the rise in skills promoted SBTC to occur

32. Nick Bloom, Stanford University, Labor Topics, 2015 32 (a) Physical Capital complementarity (1/2) One plausible idea is that capital is more complementary to skilled labor then unskilled labor. Krussell, Ohanian, Rios-Rull and Violante (2000, Econometrica) Y=K α (λ[μK s ρ + (1-μ)L s ρ ] σ/ρ + (1- λ )L u σ ) 1/σ If σ>ρ then reductions in the cost of K increase the demand for L s Effectively this replaces A s /A u with the price of capital

33. Nick Bloom, Stanford University, Labor Topics, 2015 33 (a) Physical Capital complementarity (2/2) Krussell et al. (2000) then provide evidence for a long-run fall in the cost of capital providing results for the model matching the data So neat model and plausible results. But there is an identification problem as the impact of the cost of capital is killed by a time trend (Acemoglu (2002, JEL), so can not be certain.

34. Nick Bloom, Stanford University, Labor Topics, 2015 Computing has become cheaper 34

35. Nick Bloom, Stanford University, Labor Topics, 2015 35 (b) Computer capital complementarity (1/3) Worker-level evidence Krueger (1993) shows that people using computers earn higher wages, and this wage premium has increased over time. Consistent with computers playing an important role, but also with computers proxying unobserved skills – for example DiNardo and Pischke (1997) show similar phenomena is true for pencils. Computers or pencils? HERE

36. Nick Bloom, Stanford University, Labor Topics, 2015 The impact of a nice and clear title 36

37. Nick Bloom, Stanford University, Labor Topics, 2015 37 (b) Computer capital complementarity (2/3) Industry level evidence A number of papers also show that: All industries show an increase in skill demand and skill premium This rise is faster in industries increasing computerization faster The drawback to this evidence is that: Unobserved – could have been something else driving both Increase in computerization in the 1980s also predicts skills premium increases in the 1960s R&D also correlated ≈0.8 with computer use Machin & Van Reenen (1998) In summary, appears likely computerization is strongly linked with SBTC, but hard to prove definitively

38. Nick Bloom, Stanford University, Labor Topics, 2015 38 (b) Computer capital complementarity (3/3) Most recently Autor, Levy and Murnrane (2003) use the Dictionary of Occupational Titles to allocate cognitive and manual repetitive and non- repetitive tasks to jobs Idea is repetitive tasks can be replaced by computers, non- repetitive ones can not Find that wages and employment in repetitive tasks fallen fastest – leading to a polarization of employment: “lovely and lousy jobs” as christened by Goos and Manning (2008) for the UK

39. Nick Bloom, Stanford University, Labor Topics, 2015 39 Source: Autor, Katz and Kearney (2007, RESTAT) Evidence that employment is polarizing since the early 1990s – employment growth strongest below 30 th percentile above the 75th The polarization of employment (US data)

40. Nick Bloom, Stanford University, Labor Topics, 2015 40 Source: Acemoglu and Autor (2010, HLE) The polarization of employment (International data)

41. Nick Bloom, Stanford University, Labor Topics, 2015 41 Source: Acemoglu and Autor (2010, HLE) The polarization by occupation (US data)

42. Nick Bloom, Stanford University, Labor Topics, 2015 Polarization of US incomes too (1/2) 42 Source: Guvenen, Ozkan and Song (2013)

43. Nick Bloom, Stanford University, Labor Topics, 2015 Polarization of US incomes too (2/2) 43 Source: Autor and Dorn, (2013, AER)

44. Nick Bloom, Stanford University, Labor Topics, 2015 44 (c) Skills are needed to deal with change The Nelson and Phelps (1966) hypothesis is that change is complex and skilled people are better at dealing with this The “acceleration hypothesis” Consistent with evidence that higher skilled employees are increasingly in demand as firms rapidly changing technologies Problems are that periods of 1970 to 1995 are associated with sluggish TFP growth – hard to reconcile this with radical technological change So in summary seems plausible but hard to fully pin down

45. Nick Bloom, Stanford University, Labor Topics, 2015 45 What about other factors – trade unions? This almost certainly played a role in the particularly poor performance of the lower earnings quartiles in the 1980s But problems with being full story: unions weakened only in the 1980s while the changes in inequality started in the 1970s unions only likely to effect lower/middle quartiles, while higher quartiles is where most of the action was

46. Nick Bloom, Stanford University, Labor Topics, 2015 46 What about other factors – minimum wage? Real value of the minimum wage fell throughout the 1980s as this was not indexed and frequently not updated. This almost certainly played a role in particularly poor performance on the lowest quartile in the 1980s. But problems with MW as a complete story: MW only started to decline in real-value in 1980s Other countries – like the UK – had no MW until late 1990s

47. Nick Bloom, Stanford University, Labor Topics, 2015 47 What about other factors – international trade(1/2) ? Trade from China and other countries could also play a role? Three issues: Magnitudes not big enough to account for size of change (the US is not open enough, at least until recently) Krugman(2008, Brookings) High-skilled wages have risen in almost every industry (including all the non-tradable sectors) Also trade generally has limited predictive power: e.g. Berman, Bound and Griliches (1994, QJE), Autor, Katz and Krueger (1997, QJE) and Machin and Van Reenen (1998 QJE)

48. Nick Bloom, Stanford University, Labor Topics, 2015 48 What about other factors – international trade(2/2) ? But: Could possibly be due to outsourcing within non-tradable industries More generally the empirical evidence is primarily in late 1990s before Chinese imports really took off. Since then entire industries have virtually disappeared (furniture, toys, textiles etc..) So trade is probably an increasingly big factor: Bloom, Draca and Van Reenen (2011) and Autor, Dorn and Hansen (2013) both finding major effects only post 2000 (particularly 2005). Also true that manufacturing in particular seen a very sharp drop in employment since 2000 due to China and WTO, and that has high share non-skilled middle-income employees (Pierce and Shott, 2013)

49. Nick Bloom, Stanford University, Labor Topics, 2015 Source: Charles, Hurst and Notowidigdo (2013) 49 China joining WTO coincided huge drop in US manufacturing employment

50. Nick Bloom, Stanford University, Labor Topics, 2015 Source: Charles, Hurst and Notowidigdo (2013) 50 Masked by the construction boom until 2008 crash

51. Nick Bloom, Stanford University, Labor Topics, 2015 What about other factors – “measurement” Maybe educational content in a college degree is rising –US college now harder to get into (greater selection) –Education more effective per year (productivity and inputs are both rising in education). Would suggest that college degree probably increasingly less substitutable with a non-college degree (larger gap in the human-capital between them) Evidence (see next slide) suggests this 51

52. Nick Bloom, Stanford University, Labor Topics, 2015 Source: “On the Time-Varying Substitutability of Labor Inputs and the Rise of Wage Inequality in the U.S. 1976-2010” by Jay Hong & Raul Santaeulalia-Lopez (2011 WUSTL mimeo) Elasticity of Substitution college vs non-college (by industry) 52

53. Nick Bloom, Stanford University, Labor Topics, 2015 53 Endogeneous technical change Final question is why did SBTC occur in the 1970s? Acemoglu (1998, QJE and 2002 RESTUD) and others have a number of papers around the idea of endogenous technical change – idea that increased supply of graduates led to technical change Related idea is endogenous technical adoption – different countries adopt different technologies endogenously An interesting area of research and plausible hypothesis but little empirical evidence beyond particular examples like: - drugs (Acemoglu and Linn, 2004 QJE) - air-conditioners (Newell, Jaffe and Stavins, 1999 QJE) - clean-tech spurred on by recent rise in oil prices

54. Nick Bloom, Stanford University, Labor Topics, 2015 Next lecture on top-end pay 54

55. Nick Bloom, Stanford University, Labor Topics, 2015 55 BACK-UP

56. Nick Bloom, Stanford University, Labor Topics, 2015 56 Also an interesting sharp-post war contraction in inequality – the “Great Compression” Goldin and Margo (1992) argue arises because of: Supply: Increased university enrollment (GI Bill), Demand: Increase in non-skilled labor demand from manufacturing Institutional: Unions strong post-war (low unemployment) and National War Labor Board