Another Look at Wage Distortion in a Developing Dual Economy

The paper focuses on an endogenous wage distortion in a developing dual economy where an efficiency wage in the urban sector triggers rural-urban migration. Because of the endogenous nature of the distortion, this migration reduces the severity of distortion by creating more jobs and reducing the actual wage differential between the sectors. These results are in sharp contrast to the outcomes of an exogenous wage distortion (minimum wage) where rural-urban migration increases the severity of unemployment and calls for costly policy mechanisms that might be either politically or economically difficult to implement. Furthermore, in contrast to the case of an exogenous distortion, interregional migration with endogenous wage distortion increases urban industrial output and structural transformation works its way into the development process. This structural transformation is maintained even when this dual economy engages in the production of non-traded goods. Although this paper does not engage in policy ranking to bring in zero unemployment equilibrium, it shows that it is possible to achieve socially desirable level of migration by influencing detection rate of shirking or disutility of work effort instead of using costly distributive parameters such as taxes and subsidies.