Driving the superstar economy: Skilled tradable services

Fabian Eckert, Sharat Ganapati, Conor Walsh 26 September 2019

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On both sides of the Atlantic, big cities have come to play an increasingly central role in policy discussions. Most recent economic growth has been concentrated in cities, leaving large parts of the country behind (Austin et al. 2018). House prices have risen fast in many large urban areas, leading to calls for more affordable housing construction and rent controls (Diamond et al. 2019). The political rhetoric of both Europe and the US also reflects these changes, pitting an urban, educated elite against the forgotten, ‘ordinary’ people in the rest of the country.

The ubiquity of these developments across countries suggests they are related to the deep, structural forces of technical change. Perhaps the central characteristic of recent technological progress is that it has drastically reduced the cost of transmitting information (Corrado and Hulten 2010). Among a host of benefits, Freund and Weinhold (2002) were the first to provide evidence that the information and communication technology revolution has particularly benefited an important group of business services. These services, overwhelmingly located in dense cities, have seen a rapid decline in their trade costs as it becomes easier to communicate ideas and instructions across space. The workers who stand to benefit most from such change are those with the best ideas, the most talent, or the best training, whose superior services become more widely available. Eckert (2018) uses this idea to explain why the densest US labor markets have seen the fastest wage growth since 1980 (see Figure 1).

Figure 1 The densest labour markets have experienced the highest relative wage growth

Source: Eckert et al. (2019).

In a new paper (Eckert et al. 2019), we categorise the service industries most subject to these forces. We call them ‘skilled tradable services’. We define them by ranking service industries by the fraction of employees with at least a college degree (their ‘skill intensity’) and by how much they are traded internationally (their ‘tradability’). Skilled tradable services are those service industries that are above the industry median in both tradability and skill intensity. Management consulting, software development, and finance are some prominent examples. The study of these services provides a compelling narrative to explain changes in the return to skill and the economic geography of high-skilled work.

Since 1980, workers in these industries have exhibited extraordinary wage growth relative to all other American workers (see Figure 2). However, this fast wage growth has not led to commensurate employment gains for the sector. In contrast, employment growth tracks wage growth in other sectors. These wage and employment growth patterns for skilled tradable services are suggestive of a superstar dynamic – the most talented skilled tradable services workers and firms are serving a larger fraction of the market today, raising their incomes, and making less talented skilled tradable services workers redundant. As a result, the average wages of surviving workers grow quickly, while employment does not.

Figure 2 Skilled tradable services show wage but not employment gains

Source: Eckert et al. (2019). 

Looking at employment composition reveals that the fraction of workers with at least a college degree working in skilled tradable services has grown faster than the employment share of such workers in the aggregate economy. In other words, these industries are becoming more skill-intensive at a faster rate than the overall economy. At the same time, a larger fraction of workers in the top percentiles of the US income distribution work in skilled tradable services (see Figure 3). In 1980, 25% of workers in the top percentile of the distribution worked in skilled tradable services, while in 2010 this number had risen to 55% even though the aggregate employment share of skilled tradable services in the US economy is roughly stable at around 23% since 1980. These developments suggest that skilled tradable services are central to understanding skill-biased technological change and rising inequality.

Figure 3 Skilled tradable services workers are increasingly dominating high-wage jobs 

Source: Eckert et al. (2019). 

However, the wage growth trends of skilled tradable services are not only striking in the aggregate. We also show that only for skilled tradable services , wage growth is biased towards the densest local labour markets, such as San Francisco, New York, and Washington, DC. In all other industries, wage growth is unrelated to population density.

The wages of skilled tradable services workers have grown 50% faster than those for all other workers in the densest US labour markets (see Figure 4), but not elsewhere. Notably, other high-skill industries (such as the Education and Medical sector), which have experienced fast wage growth in the aggregate, have not seen a similar bias. Falling communication costs appear to have amplified the productive advantages of these cities, which already specialised in skilled tradable services in 1980. It also means that the fast wage growth in skilled tradable services can help understand the rapidly rising rents in many large US cities. More broadly, it suggests that as the US economy moves from manufacturing to tradable services, propulsive industry growth is likely to become even more concentrated in a few productive regions that manage to attract high-skilled workers. 

Figure 4 Skilled tradable services show disproportionate wage growth in dense regions  

In our paper, we assess the contribution of the rise of skilled tradable services to two secular trends in the US labour market between 1980 and 2010:

  • first, the rise of superstar cities – without skilled tradable services wage growth, overall wage growth in the densest US cities would have been no different than in the least dense cities; and
  • second, the rise of wage inequality – without skilled tradable services wage growth, overall inequality between the richest 95% and the median employee would have grown by about 30% less.

In the future, only the most skilled individuals, the densest labour markets, and the highest paying firms are likely to directly participate in the growth of skilled tradable services. As these services become more important, the exclusive nature of their growth poses new challenges to policymakers. We hope that the preceding facts will lead to increased attention to the central role of skilled tradable services in some of the most significant changes in the US labour market in recent decades.

References

Austin, B,  E Glaeser and L H Summers (2018), “Saving the heartland: Place-based policies in 21st century America”, Brookings Papers on Economic Activity 8.

Corrado, C A and C R Hulten (2010), “How do you measure a “technological revolution”?”, American Economic Review 100(2): 99-104.

Diamond, R, T McQuade and F Qian (2019): “The effects of rent control expansion on tenants, landlords, and inequality: Evidence from San Francisco”,  American Economic Review 109(9): 3365-94.

Eckert, F (2018). “Growing apart: Tradable services and the fragmentation of the US economy”, working paper, Yale University

Eckert, F, S Ganapati and C Walsh (2019), “Skilled tradable services: The transformation of US high-skill labor markets”, Opportunity & Inclusive Growth Institute, Federal Reserve Bank of Minneapolis working paper 25. 

Freund, C and D Weinhold (2002), “The Internet and international trade in services”, American Economic Review 92(2): 236-240.

Hsieh, C-T and E Moretti (2019), “Housing constraints and spatial misallocation”, American Economic Journal: Macroeconomics 11(2): 1-39.

Rosen, S (1981), “The economics of superstars”, American Economic Review 71(5): 845-858.

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Topics:  Industrial organisation Labour markets Poverty and income inequality

Tags:  US, skilled tradable services, service industries, urbanisation, cities, wages, Inequality

Postdoctoral Associate, Department of Economics, Princeton University

Assistant Professor of International Economics, Georgetown University

PhD candidate, Department of Economics, Yale University

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