Affirmative action in a competitive economy

We consider a model of endogenous human capital formation with competitively determined wages. Discrimination is sustainable in equilibrium in the presence of two distinguishable, but ex ante identical groups of workers. An affirmative action policy consisting of a quota may `failʹ in the sense that there still may be equilibria where groups are treated differently. However, the incentives to invest for agents in the discriminated group are improved by affirmative action if the initial equilibrium is the most discriminatory equilibrium in the model without the policy. The welfare effects are ambiguous. It is possible that the policy makes the intended beneficiaries worse off: even if the starting point is the most discriminatory equilibrium the expected payoff may decrease for all agents in the target group.