Organization and Inequality in a Knowledge Economy

How does information technology affect wages and organization? To answer this question, we model an economy formed by a continuum of agents with heterogeneous cognitive skill, who use a production technology that requires physical inputs and knowledge. Our model generates an assignment of workers to positions, a wage structure, and a universe of knowledge-based hierarchies with different allocations of tasks, spans of control, and number of layers. It displays positive sorting between production workers and problem solvers, an increasing relationship between rank and cognitive ability, an increasing and convex wage schedule and a positive relation between wages and firm size. We use our model to study the impact of information technology on the labor market andonthestructureoffirms. We show that the evolution of wage inequality and firm size is consistent with decreases in the cost of accessing information in the 80’s and early 90’s and decrease in the cost of communicating information in the late 90’s. Our theory is also consistent with the evidence on decentralization, flatter hierarchies and larger spans of control. 1