Capitalist Spirit and the Markets : Why Income Inequality Matters

I develop a simple, static general-equilibrium model with two classes of individuals, workers and entrepreneurs, and two goods. One good is in fixed supply, intrepreted as status-good, and the other is a standard, producible and consumable commodity. All prices are set by firm owners (entrepreneurs) and labor-market competition is modelled ala Bertrand. Even though the model does not feature any type of price rigidity, asymmetric information or labor-market friction, its pure symmetric Nash equilibria produce markedly different results from the canonical competitive equilibrium models: (i) A positive output gap and involuntary unemployment may emerge in equilibrium. (ii) Income and wealth inequality matter for the determination of equilibrium prices and employment. (iii) An increase in income/wealth inequality or of productivity may reduce employment and increase the output gap. As a result, Say's Law may not hold in the economy and minimum-wage policies may have desirable effects in terms of employment and output. The model provides a justification for a number of arguments used in public debates