Aggregate Reallocation Shocks and the Dynamics of Occupational Mobility and Wage Inequality

This paper presents a dynamic model of structural unemployment and occupational choice in which an economy is subjected to aggregate reallocation shocks. Reallocation shocks, which change the relative labour productivity across occupations, drive variation in the distribution of workers across occupations. The wage paid to workers in a given occupation depends on its labour productivity and the number of workers employed in that occupation. Workers who wish to switch occupations in order to obtain higher wages face a fixed cost to retrain and, in addition, it is more costly to switch to occupations requiring vastly different skills relative to those of the worker's current occupation. Thus workers may prefer to remain unemployed in occupations suering through relatively low productivity states. Between the late-1970s and the mid-2000s the U.S. economy featured an episode during which occupational mobility rose along with an increase in wage inequality both in the top and bottom halves of the wage distribution. This was followed by an episode during which occupational mobility fell, while a rise in inequality in the top half of the wage distribution was accompanied by a fall in inequality in the bottom half. The model can produce episodes with properties similar to that of the U.S. experience and thus offers a theory of why these episodes occur.