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This chapter reviews some of the theoretical literature on skill shortages.’ It is important to point out at the outset that there is some discussion in the literature about the precise definition of skill shortages by occupation (Bosworth and Warren, 1992; Muysken, 1994). One of the main arguments here is that the term ‘shortage’ is imprecise. In a discussion of skill shortages one needs to consider skills as encompassing economic and institutional factors as well as innate abilities and personal characteristics. Booth and Snower (1996) blame the problem on insufficient incentives for people to acquire skills. Solow (1990) argues that the market clearing mechanism applied to labour markets has failed to explain the presence of unemployment. In other words, labour cannot be viewed as a commodity and labour markets do not behave in the same way as product markets. Furthermore, the traditional general equilibrium theory cannot easily justify the existence of skill shortages.2 This is not the place for an extensive discussion of general equilibrium theory as applied to labour market^.^ Our review is limited to a presentation of important concepts associated with static and dynamic skill shortages and explanations for the failure of labour markets to clear. The efficiency wage theory, the insider-utsider approach, barriers to mobility and the notion of path dependence are four concepts that provide explanations for the failure of labour markets to clear. STATIC SHORTAGES The existence of a skill shortage in a traditional and partial equilibrium framework can be easily determined. If the demand...