Opportunity Choice Under Bidimensional Heterogeneity

This work provides an extension of equilibrium model [Sharunova et. al., 2015], which studies how heterogeneous individuals, that differ by entrepreneurial skills and productivity as workers, endogenously choose their occupation (workers vs. entrepreneurs) based on expected income comparison [Lucas, 1978]. There are two sectors in economy: a traded sector that produces a homogenous good under constant return to scale and perfect competition market and a nontraded sector where each individual who organizes a firm produces a unique variety of a differentiated good in monopolistic competition market. Instead of standard CES function used in [Sharunova et. al., 2015] preferences in population are described with quasi-linear utility function with a quadratic subutility. Within this framework, a slip of a self-selection cutoff, that describes an equilibrium in economy hinges mostly on market size. Parameters that describe distribution of skills in population and intensity of preferences for the differentiated products affect the bias of the self-selection cutoff. For the case when the distribution of entrepreneurial skills follows power law and workers’ productivity is uniformly distributed, while both distributions are independent, changes in economic structure (share and average productivity of entrepreneurs) and location of the cutoff due to shocks in market size, structure of preferences and distribution of abilities in population are shown. In general, the results of the model coincide the existing empirical and theoretical researches, but in contrast to many other works, this model combine the effect of three factors on the market at the same time, that are the market size, individual characteristics of agents and structure of preferences in population. It enables to see the full picture of market mechanisms in reaction to exogenous shocks.