Changing demand for general skills, technological uncertainty, and economic growth

We develop a simple growth model featuring individuals’ choices between general and specific skills, endogenous technological innovation, and a government subsidy for education. The two types of skills differ by their productivity and transferability: general skills are transferable across firms, while each firm-specific skill has a productivity advantage in the firm. Firms face uncertainty in their innovation activities, and the resulting heterogeneity in their labor demand makes the transferability of general skill valuable. We theoretically show that as a country catch up to the world technology frontier, firms invest more in innovation activities. This rises firms’ technological uncertainty and, thus, their demands for general skills increases. As a result, especially in more advanced economies, education subsidies may enhance GDP by increasing the supply of general skills. Using aggregated data for 12 European OECD counties, we calibrate the model and compare the theoretical prediction with the data. In cross-country comparisons, we find that the returns on general skills and the impact of general education expenditure on GDP are higher in countries with higher total factor productivity. These findings support our theoretical argument of the positive relationship between firms’ demand for general skills and countries’ stages of development.