Structural change in labor supply and cross-country differences in hours worked

Abstract

This paper studies how structural change in labor supply along the development spectrum shapes cross-country differences in hours worked. We emphasize two main forces: sectoral reallocation from self-employment to wage work, and declining fixed costs of wage work. We show that these forces are crucial for understanding how the extensive margin (the employment rate) and intensive margin (hours per worker) of aggregate hours worked vary with income per capita. To do so we build and estimate a quantitative model of labor supply featuring a traditional self-employment sector and a modern wage-employment sector. When estimated to match cross-country data, the model predicts that sectoral reallocation explains more than half of the total hours decrease at lower levels of development. Declining fixed costs drive the rise in employment rates at higher levels of income per capita, and imply higher hours in the future, in contrast to the lower hours resulting from income effects and expansions in tax-and-transfer systems.