July 1, 2018 is the day when San Francisco’s new US$15 minimum wage comes into effect. Workers and civil rights groups have already applauded this decision, which will benefit directly low skill workers: retailers, landscapers, fast food employers, etc. As many as 86,000 workers, most of whom were women and minorities, would benefit according to estimates. San Francisco is not the only major U.S. city increasing minimum wages. New York City, Seattle and Los Angeles have also approved increases of up to US$15 by 2020. All these measures, an effort to reduce income inequality. 

Thus, understanding the forces that drive income inequality is of great importance. Such is the task Clara Santamaria, a PhD candidate at Princeton University, sets out to achieve. On January 19, she presented her paper “Small Teams in Big Cities: Inequality, City Size and the Organization of Production” at the University of Navarra. The paper aims to explain how the “sorting of individuals across cities and the organization of production within cities interact with technology to shape income inequality”. 

To this end, Santamaria introduces a theoretical framework where cities vary in terms of technology, amenities and housing stock, and agents have different skills, preferences for cities and willingness to supply labor. The fact that technology, as evidenced in the data, seems to be more complex in larger cities leads to a skill premium that shapes production organization across and within cities. Ultimately, these factors make larger cities more unequal and seem to explain fatter tails in income distribution. Within this context, Santamaria analyzes the effect of two policies that “are part of the debate on how to address income inequality”:  minimum wage increases and a housing subsidy in large cities.  

The former is not optimal. It forces “the lowest-skilled managers into hiring higher-skilled workers and the lowest skilled workers into becoming self-employed.” Additionally, it would create incentives for low-skilled workers to move to the small cities, thus driving down wages for low-skill workers there. On the contrary, a housing subsidy would redistribute income toward the lowest-skilled and decrease the supply of low-skilled workers in small cities, driving up wages and toughening selection into management. 

However, Santamaria clarified that her investigation focuses in the short term: “The effects of these policies are going to be short term, when there is no change in technology or housing stock. Maybe in long term agents will choose to acquire more skills, and in that case technology production could change”, she concluded.