Technology-Skill Complementarity and Competition Policy

We construct an endogenous growth model incorporating Nelson and Phelps' insight that human capital and technology are complementary. By assuming that new technologies can initially be operated by skilled labor only, we formalize the idea that the payoff to human capital is positive only if technology is progressing. Over time, new technologies become standardized and can be freely operated by all workers in a fully competitive sector. Since the private value of an innovation is proportional to the number of workers capable of using it, the payoff to R&D depends on the supply of skilled labor. By modeling endogenous skill-acquisition we also introduce a positive feedback effect from innovation to human capital formation. We fully characterize the steady state properties of the model and the transitional dynamics. The model features rich dynamics, with multiple equilibria and poverty traps. Contrary to conventional models, the complementarity between growth and human capital implies that monopoly pricing on new technologies imposes a dynamic distortion over and above the usual static one. The reason is that monopoly power discourage the accumulation of complementary factors (human capital) thereby lowering innovation. In order to maximize growth, the markup must be lower than the one chosen by an unconstrained monopolist, the more so the higher the elasticity of the supply of skilled labor. The model allows us to study simultaneously a second aspect of monopoly power: the expected duration of monopoly profits, captured by the speed of the standardization process. We characterize the joint determination of optimal policies over the two dimensions of monopoly power, price limits and imitation policy, that maximize steady-state welfare. In general, the optimal strategy for poor economies where human capital is low and relatively inelastic requires a combination of high markups but short-lived monopoly rights (fast diffusion). In developed countries where human capital is abundant and more elastic, the optimal policy prescribes low markups but long-lasting monopoly rights (slow diffusion).