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The Labor Share and the Size of Government

Abstract

The size of government depends positively on the labor share given price-inelastic demand or public services.  OECD data support this hypothesis and also show a stronger dependence under left wing ideology because larger government employs a larger workforce.  A permanent one standard deviation increase in the labor share is found on average to increase government size by about 9% of GDP,with increases of 6% in right-wing countries and 12% in left-wing countries.  Contrary to Baumol’s cost disease the relationship is estimated to be independent of income. Recent reductions in the labor-share have substantially slowed the growth of government in many countries.

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