Globalization, EU Enlargement and Income Distribution

Advanced industrial countries have been exhibiting a steady decline of the labor income shares in the last two decades. We explain this phenomenon by resorting to the old Stolper-Samuelson theorem. The conclusions concerning the impact of free trade on the income distribution are unambiguous in a Heckscher-Ohlin world with two countries, two goods and two factors of production (capital and labor). In contrast, the consequences of FDI from the capital abundant country (EU) to the labor abundant CEEC are ambiguous. Both scenarios are investigated theoretically and then simulated with a hypothetical two country CGE model, including the EU and the CEEC. A panel regression for both regions separately, helps to decide empirically which influences on the development of the labor income shares are at work. Globalization, measured by revealed comparative advantage (increase in global net trade) has contributed to a decline in the labor income shares in the EU. Additionally, those countries which are engaged more in trade with the CEEC can expect a sharper decline in the wage share. Global net FDI outflow also exerts a negative influence on the labor income share in the EU. In the CEEC the increase in global net trade had a positive influence on the labor income share, trade with the EU, however, dampened the labor income share. FDI inflow increased the labor income share in the CEEC.