Invention, Innovation, and Wage Inequality in Developed Countries

A growth model that endogenizes skill formation and the skill requirements of invention and innovation is used to analyze developed countries that must invent and innovate vs those that may specialize in innovation. Invention (innovation, respectively) is defined as the creation of (use of) new technologies with the potential to increase (that actually increases) total factor productivity. It is shown that a small innovation specialist will have a larger share of knowledge that is skill saving resulting in lower wage inequality, but with an equal economic growth rate as the invention leader. Specialization in innovation is preferred for all agents in the small country because growth rates of wages for high- and low-skilled workers are higher at the steady state. The large country cannot specialize in innovation, as it cannot rely on significant amounts of invention from abroad. The novel effect helps explain higher returns to skills and the larger increase in wage inequality in the arguably more inventive United States than in other advanced countries in recent decades. The results do not depend on international spillovers from the large to small country (yet still hold in their presence), thereby explaining the skill differential during the information technology revolution, which has been not been characterized by significant, costless spillovers.