FRBSF Economic Letter
2006-17; July 21, 2006
Labor Markets and the Macroeconomy: Conference Summary
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This Economic Letter summarizes the papers presented at
a conference on "Labor Markets and the Macroeconomy" held
at the Federal Reserve Bank of San Francisco on March 3 and
4, 2006.
The papers are listed at the end and are available here.
This year's conference brought academic researchers and policymakers
together to discuss six research papers that focused on labor
markets, and how labor market behavior can influence the broader
macroeconomy.
Three of the papers addressed aspects of wage bargaining and
its consequences for wage and employment volatility over
the business cycle. Hall studied a suite of models to understand
why employment and unemployment are so volatile. Rotemberg
showed that shocks to pricing power can help explain why
wages
are not
strongly correlated with the business cycle, using a model
in which large firms bargain simultaneously with many workers.
Gertler
and Trigari also sought to understand why wages are relatively
smooth and employment fluctuations are relatively large over
the business cycle, showing that a model with staggered multiperiod
wage bargaining can replicate these features of the data.
Shimer developed a model of labor market mobility, one in
which some workers may move among labor markets in the
event that
they become unemployed. With some unemployed workers leaving
labor
markets that have too few jobs, Shimer showed that the
model could capture the strong negative correlation between the
unemployment rate and the vacancy rate found in U.S. data.
Aguiar and Hurst looked at five decades of time-use surveys
to uncover trends in how people allocate their time.
They found that between 1965 and 2003, leisure time for men
has increased
by 6-8 hours per week while leisure time for women has
increased by 4-8 hours per week.
The sixth paper summarized the International Wage Flexibility
project, an ambitious undertaking that includes contributions
from over forty researchers, whose goal
is to collect and document cross-country micro-level data on wages
and earnings in an effort to understand the costs and benefits
of inflation for the labor
market.
The labor market and macro volatility
An important question in macroeconomics is why employment and
unemployment are so volatile. This volatility cannot be
explained adequately using
standard real
business cycle models, models in which labor and product markets
are assumed to clear and are perfectly competitive. More
generally, in
real business
cycle models, quantities, such as hours worked, are not that volatile
because wages
and prices do much of the adjusting needed to clear markets following
shocks. However, as shown by Shimer (2005), the standard matching
model, in which
workers search and then bargain with firms over wages before forming
a match, with
the firm making a take-it-or-leave-it offer to the worker, also
fails to explain why employment and unemployment are so volatile.
Hall studies two mechanisms that may make employment and unemployment
more volatile. The first mechanism allows for a form of equilibrium
wage stickiness
in which
the outcome of the wage bargain between a firm and a worker is
a combination of the Nash-bargain wage and a constant wage. The
second
mechanism
replaces Nash bargaining with a form of alternating offers. Thus,
rather than
having one party
make a take-it-or-leave-it offer to be accepted or rejected,
as occurs with Nash bargaining, an offer by one party can be
countered
by an
alternative offer by
the other party, but at the cost of a longer bargaining period.
With either of these modifications to the standard search-and-matching
model, Hall showed
that
employment and unemployment became more volatile. Underlying
these increases in the volatilities of employment and unemployment
is
the
fact that both
mechanisms serve to make wages "sticky," that is, less
responsive to shocks. The implication of this wage stickiness
is that employment and unemployment must
do more of the adjusting needed for the labor market to clear.
Unemployment fluctuations with staggered wage-setting
Gertler and Trigari also take up the issue of why employment
and unemployment are so volatile in the context of a fully
specified macroeconomic model
in which workers and firms bargain before making a match. They
note that the
main problem
with the standard matching model, with period-by-period Nash
bargaining
over wages by workers and firms, is that wages are too volatile
and too pro-cyclical,
with wage adjustments over the business cycle moderating firms'
demand for labor. Their approach to correct this problem with
the standard
matching model is to
introduce staggered Nash wage bargaining, a form of wage rigidity
that limits
the flexibility of wages and the role of employment and unemployment
adjustments in labor market clearing.
With staggered Nash wage bargaining, a proportion of randomly
selected firms negotiate a wage contract with its existing
workforce with
the negotiated wage in force until a renegotiation occurs.
Workers hired
between negotiation
dates
receive the wage prevailing for that firm. A consequence
of this bargaining arrangement is that the aggregate wage rate
becomes
less responsive
to shocks,
such as those
to productivity. Building this labor market structure into
an otherwise standard business cycle model, the authors show
that
their model
can replicate important
features of U.S. macroeconomic data. Specifically, their
model
is able to capture the volatility in wages, unemployment,
vacancies, and labor
productivity
well,
but does less well with respect to the volatility of employment.
Wage cyclicality in a search-and-bargaining model
Rotemberg also takes as motivation the fact that the standard
search-and-matching model and models with competitive
labor markets generate too much
wage volatility and too little employment and unemployment
volatility relative
to the data
but, departing from previous exercises, Rotemberg analyzes
a search-and-matching model
in which firms are large and have pricing power. In his
model, firms are able to post multiple job vacancies cheaply,
but
they must contend
with
shocks to
their pricing power in addition to productivity shocks.
The fact that large firms can cheaply advertise multiple
job vacancies means that workers have less bargaining
power, so
a positive productivity
shock
does not translate into a large wage increase. As a
consequence, wages become less
volatile and less pro-cyclical than in the standard
search-and-matching model. Similarly, a shock that lowers a firm's
pricing
power will cause that firm
to increase its output and employment, and the rise
in employment will damp or even
lower real wages. Through these mechanisms, and without
introducing any wage rigidity, real wages become less
volatile and less
pro-cyclical, while the
volatilities of employment and unemployment are magnified.
Mismatch
In models with perfectly competitive labor markets
the real wage adjusts so that the demand and supply
for labor
are
in balance.
Disturbances, such as
technology
and oil price shocks, change the wage rate and the
number of hours worked, but they do not cause unemployment.
Of course, unemployment
is an important
feature
of the economic landscape in actual economies, and
so,
too, are job vacancies, but why do unemployment and
job vacancies
coexist?
The
paper
by Shimer
advances an answer to this important question.
In Shimer's model, workers are associated with particular
jobs and with particular geographic locations, so
a vacancy for
a dental technician
cannot be filled
by an unemployed carpenter and a vacancy in Phoenix
cannot be filled by someone unemployed living in
Atlanta. In
this framework,
unemployment
and
vacancies
can
coexist due to a mismatch between the skills and
geographic location of the unemployment and the skills
and geographic
location of
available jobs.
Of
course, there is
some mobility between labor markets in actual economies,
and the model allows for this.
With this apparatus, Shimer shows that the model
can replicate important features of labor market
outcomes.
The model
allows unemployment and vacancies to coexist
and it is able to replicate closely the Beveridge
curve, the strong inverse relationship between the
unemployment
rate and
the vacancy
rate found
in U.S. macroeconomic
data. In addition, the model predicts that an increase
in the ratio of the vacancy rate to the unemployment
rate should
lead
to an
increase
in the job-finding
rate,
which is also qualitatively consistent with U.S.
macroeconomic data.
Measuring trends in leisure
Understanding how and why people allocate their time
between work and leisure is important for understanding
both labor
market outcomes
and
household
well-being. While it is possible to measure the
time someone spends working for a firm
it is much more difficult to measure leisure time.
The simplest approach is to simply
attribute all time not spent working in a formal
labor market to leisure. Of course, this approach
ignores
the fact that
people can spend a lot
of time
working at home on "home production." Thus,
time spent watching TV or playing cards might reasonably
be considered leisure time, but time spent mowing
the
lawn or cleaning the drapes should probably be
attributed to home production, not leisure.
To investigate how leisure time has changed over
time, Aguiar and Hurst study data from time-use
surveys that
reveal how
much time
respondents
spend in
market work and how they allocate their time
outside of market work. Among other results,
after adjusting for changing demographics, they
find that between 1965 and 2003 leisure has increased
by 7.9 hours
for men and
by 6.0 hours
for women.
Interestingly,
for men this increase in leisure time has come
about
through a decline in market work, while for women
the increased
leisure time
has come
about through
a large
decline in time allocated to home production
and has occurred despite a rise in time spent in market
work.
The interaction between labor markets and inflation
The interaction between wage changes and inflation
is an important one for macroeconomics and
for monetary policy.
For example,
rigidities in
nominal
wages make price
adjustment, inflation, and, hence, monetary
policy, important
for employment outcomes. Dickens et al. study
the evidence on nominal
and real wage
rigidity across a wide set of countries.
This study analyzes 31 different data sets,
covering 16 countries and 27 million people,
on changes
over time in
individuals'
wages or earnings.
Applying a
common protocol to all 31 data sets and
correcting the data for measurement error, the
authors find that dispersion in nominal
wage changes across individuals is positively
correlated with
the level of
inflation, a feature
that is
consistent
with downward
rigidity in nominal wages and with distortions
caused by inflation. More generally, to
a greater or lesser
extent,
the authors
find evidence for
both nominal wage
rigidity and real wage rigidity in nearly
every country. In particular, nominal wage
rigidity
was most prevalent
in Portugal,
followed
by the U.S., and least
prevalent in Germany, while real wage rigidity
was most prevalent in Sweden, followed
by Finland, and
least prevalent
in Greece.
Richard Dennis
Economist
John Williams
Senior Vice President and Advisor
Conference papers
Aguiar, Mark, and Erik Hurst. 2006. "Measuring Trends in
Leisure: The Allocation of Time over Five Decades." NBER
Working Paper #12082.
Dickens, William, Lorenz Goette, Erica Groshen, Steinar Holden,
Julian Messina, Mark Schweitzer, Jarkko Turunen, and Melanie
Ward. 2005. "The Interaction of Labor Markets and Inflation:
Micro Evidence from the International Wage Flexibility Project." Unpublished
manuscript.
Gertler, Mark, and Antonella Trigari. 2006. "Unemployment
Fluctuations with Staggered Nash Wage Bargaining." Unpublished
manuscript.
Hall, Robert. 2005. "The Labor Market and Macro Volatility:
A Nonstationary General-Equilibrium Analysis." NBER
Working Paper #11684.
Rotemberg, Julio. 2006. "Cyclical Wages in a Search-and-Bargaining
Model with Large Firms." Unpublished manuscript.
Shimer, Robert. 2005. "Mismatch." NBER Working Paper
#11888.
Reference
Shimer, Robert. 2005. "The Cyclical Behavior of Equilibrium
Unemployment and Vacancies." American Economic Review 95,
pp. 25-49
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