Egalitarian Wage Policies and Long-Term Unemployment.

How does a centrally imposed egalitarian wage policy affect unemployment when workers differ with respect to productivity? The effect on total unemployment is found to be ambiguous. Egalitarian wages encourage job creation because increased profits derived from the most productive workers more than outweigh reduced profits derived from the least productive workers. Short-term unemployment is reduced. On the other hand, firms respond by raising their reservation productivity. Some workers are left almost completely unemployable. Long-term unemployment rises. Less inequality in the wage distribution is obtained at the expense of more inequality in the distribution of unemployment. Copyright 1998 by The editors of the Scandinavian Journal of Economics.