Mitigating Inequality

This dissertation attempts to provide a better understanding of inequality drivers and potential policies that could help mitigate the effects of economic downturns. Given that large income inequality exacerbates recession impacts, my job market paper explores the role of minimum wage in mitigating earnings inequality through its impact on labor force participation rate (the main driver of widening earnings inequality in the bottom half of U.S. labor earnings distribution). I show that raising the minimum wage during a recession can in fact help reduce the decline in the labor force participation rate, mitigating in turn the overall contraction in consumer demand. My paper demonstrates that, in addition to policies that focus on replacing earnings of workers who lost their job during a recession, additional policies that help sustain employed workers' labor income are needed to help counteract the further rise in inequality. Some of the long-run increase in income inequality in the US can also be partially attributed to the shift in the population age structure, which we show in my co-authored paper. We provide empirical evidence that the decline in the natural rate of interest can be explained equally well by either demographics or inequality. We also show that the trend in the stock market, driven by demographics, explains the rise in inequality. Focusing on the stock market, my third paper analyses the role of equity-based pay in mitigating financial amplification effects of wage rigidity during downturns. Given the substantial use of equity based pay, the question arises as to what extent the ability to adjust the compensation structure can soften the impacts of a recession. My paper shows that the use of equity-based pay, by deferring part of labor expenses, helps stabilize firms' employment and save jobs, with the effects being more pronounced when access to external funding is more limited.