The economics of production systems: Segmentation and skill-biased change

In this paper, the concept of production systems is introduced. I assume a standard thick-market externality together with the idea that higher quality goods also require higher skills from workers. Firms face a trade-off between low-quality goods with low skill-requirements for which the potentially abundant labour force generates strong thick-market externalities and higher quality goods with higher skill-requirements. In equilibrium, the economy is partitioned into production systems, i.e., clusters of firms producing the same quality. The distribution of skills determines the boundaries of the production systems, which in turn determine the wages. In this framework an increase in the supply of skilled workers can induce first higher wages for all workers and then higher wages for the skilled but lower wages for the unskilled. This is consistent with the late 20th century evolution of the US labour market.