International Diversification, Reallocation, and the Labor Share
When firms choose inputs under uncertainty, the price and quantity of risk affects the allocation of resources across firms and labor's share of income. We develop a model of input allocation and international risk sharing. Increasing international diversification lowers the price of local risk and leads to a reallocation of labor towards riskier firms and a rise in the median (or within-firm) labor's share of income, matching key micro-level facts. Under plausible assumptions, the reallocation effects dominates and labor's share of national income declines. We use firm-level and cross-country data to document a number of empirical patterns consistent with our model: (1) riskier firms have lower labor share, (2) international diversification is associated with reallocation towards riskier firms and declines in aggregate labor's share of income, (3) industries with greater heterogeneity have greater sensitivity of their labor share to international diversification.