This paper analyses the interactions between growth and the contracting environment in production. With incompleteness in contracting, viable production relationships between firms and workers, and therefore the profitability of industries, depend on the rates of innovation and growth. The speed at which new innovations arrive in turn depends on the profitability of production, for the usual reasons examined in the endogenous growth literature. We show that these interactions can have important implications which are consistent with observed phenomena in both the micro and macro environments. In particular, we demonstrate that a technological shock (increasing productivity of research) can, through this interaction, lead to a productivity slowdown and a shift in labour market contracts away from firms providing implicit guarantees of lifetime employment and towards shorter-term “contractor” type arrangements. We show the consistency of an increase in the proportion of the labour force under short-term employment, increased relative returns of workers in high-productivity sectors, and increased income inequality, with a productivity slowdown of finite duration. Copyright 2003, Wiley-Blackwell.
