Transcript Economics 154b February 24 and March 1, 1999 Wages, Prices

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Midterm logistics
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Midterm: Next Wednesday, Oct 10, 11:35-12:50.
Closed book, no electronic anything.
Room for midterm is Davies Auditorium.
Coverage: through labor (not investment).
Gradation of questions from easy to hard.
Three parts. Last year’s will be posted (but different
coverage, so just for structure).
• Review sessions:
- Special sections by TFs TBA
- Omnibus sessions 6-9 on Mon and Tues pm; room WLH 199.
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Macro theory of
unemployment
IS-MP
Y
u
Potential
output =
AF(K,L)
Ypot
Some key empirical regularities
of the labor market
Okun’s Law: unemployment moves inversely with Y
Beveridge Curve: Unemployment moves inversely with
vacancy rate (later)
Phillips Curve: Inflation moves inversely with
unemployment
4
Unemployment driven by changes in output
Okun's Law
.10
11
.08
10
.06
9
.04
8
.02
7
.00
6
-.02
5
-.04
4
-.06
1980
Δu = (8/16)(Δ %gap)
= ½ (Δ%gap)
3
1985
1990
1995
2000
2005
2010
(Potential - actual GDP)/Potential GDP (left)
Unemployment rate (right)
5
The Current Population Survey (CPS)
• Source of data for monthly unemployment, employment, labor force
data.
• Overview of the survey
• 60,000 households surveyed monthly
• “scientifically selected to represent the civilian non-institutional
population”
• provides estimates of employment, unemployment, earnings, hours of
work, and other indicators
• Definitions:
• Employed = worked for pay or absent from job for cause
• Unemployed = not working plus actively looking for work
• Labor force = E + U
For further information, see
http://www.bls.census.gov/cps/cpsbasic.htm
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?
7
8
9
Alternative Measures of Unemployment (corrected)
As % of labor force of labor force+
Sep-06
Aug-12
U-1 Persons unemployed 15 weeks
or longer
1.5
4.4
U-2 Job losers and persons who
completed temporary job
2.1
4.5
U-3 Total unemployed
4.6
8.1
U-4 Total unemployed plus
discouraged workers
4.8
8.6
U-5 Total unemployed, plus all
persons marginally attached to the
labor force
5.4
9.6
U-6 Total unemployed, plus all
persons marginally attached to the
labor force, plus total employed
part time for economic reasons
8.0
14.7
10
Unemployment by age
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Why is there unemployment?
Is it indeed a central flaw in modern capitalism?
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How do labor markets function?
This is a major issue in modern macro
Alternative mechanisms for balancing supply and demand:
- Auctions (financial markets, stock markets, …)
- Firms post prices or wages (union contracts, Yale tuition, …)
- Buyers and sellers bargain (houses, baseball players,…)
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How do wages respond to a glut of workers?
Wage inflation (% per year)
10
9
Wages tend to display “nominal
stickiness” and “downward
rigidity.”
8
7
6
5
4
3
2
1
1980
1985
1990
1995
2000
2005
2010
14
Flexible oil prices v. sticky wages
6.0
4.0
Hourly earnings
Oil prices
2.0
1.6
1.2
0.8
0.6
0.4
0.2
1980
1985
1990
1995
2000
2005
2010
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The Issue of Wage-Price Flexibility
The single most important issue in labor and inflation theory
revolves around the question of the flexibility of wages and
prices.
This in turn mainly concerns the flexibility of wages
Major historical developments:
1. Nominal wage change became much less volatile.
2. Nominal wages became downwardly rigid.
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Wage declines in American History
.00
-.05
1933 - 2011:
no declines in
nominal wages
-.10
-.15
-.20
-.25
-.30
1850
1875
1900
1925
1950
1975
2000
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Distribution of wage increases
(nominal, percent year over year)
Distribution
-10 to -5%
-5 to 0%
0 to 5%
5 to 10%
10%+
Total
1866-1928
1946-2011
13%
24%
48%
6%
8%
0%
0%
68%
30%
2%
100%
100%
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Why are wages rigid?*
1. Rise of unionization and worker representation
2. Rise of multi-year nominal contracts
3. Social norms against nominal wage reductions
4. Money illusion on nominal wage reductions
From an microeconomic point of view, wages are sticky because
it is costly for employers to adjust them rapidly (“menu
costs” in “New Keynesian macroeconomics”)
The result is a fundamentally different macroeconomic dynamics
from a flexible-wage-price economy!
* Warning: This is very controversial area in macro.
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Why is there unemployment?
Market-clearing (auction-Walrasian): not really relevant
• Wages move to clear supply and demand
• Workers would be on supply curves; unemployment would be
“voluntary”
Non-market-clearing (non-Walrasian): Wages are
determined in a decentralized manner:
• In modern search theories, workers search and “matching” with
firms, but can have unemployment and vacancies when
matching is not perfect. (Discussed today)
• In other case, firms have wage structure (say union bargain).
Firms determine employment (are on their demand schedules),
and workers may be off curves and jobs rationed.
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• Why are so many people unemployed at the same time that there
are a large number of job openings? How can economic policy affect
unemployment? …
• On many markets, buyers and sellers do not always make contact
with one another immediately. This concerns, for example,
employers who are looking for employees and workers who are
trying to find jobs. Since the search process requires time and
resources, it creates frictions in the market. On such search markets,
the demands of some buyers will not be met, while some sellers
cannot sell as much as they would wish. Simultaneously, there are
both job vacancies and unemployment on the labor market.
[From Nobel citation.]
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Search Models of the Labor Market
• Search models: Unemployment arises from “search” and “labor
market frictions” (Mortensen-Pissarides model is standard)
• Heterogeneous firms and workers are like molecules, bouncing
around looking for jobs or workers.
• When they meet, and if there is surplus*, they match and bargain
for a wage.
• Have job creation and destruction by economic forces
• This leads to equilibrium “frictional” unemployment and
vacancies depending on various parameters.
• This generates a “Beveridge curve” over the cycle.
• A change in the structure may shift the Beveridge curve out or in.
• But search models have not yet been successful in
predicting the cyclical pattern of wages and employment
changes.
*I.e., potential net gains from trade.
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Vacancy =
Unemployment =
Match =
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Basics of search models of labor market
[From Nobel reading on reading list.]
Labor force, L
Unemployment = uL
Vacancies = vL
φ = exogenous rate of job destruction
Labor market “tightness” = θ = v/u = slope of Beveridge curve
Unemployed workers find jobs at rate of α = α(θ), α'(θ) > 0
Firms fill vacancies at rate q = q(θ), q' (θ) < 0
In steady state, job creation (αuL) equals job destruction (φ(1-u)L).
Steady state unemployment when flows are in equilibrium:
(1)
u* 



   ( )    ( v * /u*)
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Derivation of Beveridge curve
(1)


u* 

   ( )    ( v * /u*)
which yields a negative relationship between u and v.
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Search model continued
Steady state unemployment when flows are in equilibrium:
(1)


u* 

   ( )    ( v * /u*)
Notes:
• Eq (1) shows the (u,v) pairs that are consistent with the search
equilibrium and is the Beveridge curve.
• We need another equation to close the system. The other equation
might be aggregate demand or productivity.
• Changes in φ or α will shift the Beveridge curve.
• Note that if the matching function deteriorates, then the Beveridge
curve shifts out.
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Note the shift from
1960s to 1980s.
Probably due to
increase in structural
change.
Source: FRBSF Economic
Letter, 2006-08; April 21,
2006, Job Matching: Evidence
from the Beveridge Curve
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How much are the unemployed searching
Alan B. Krueger and Andreas Mueller, “The Lot of the Unemployed: A Time Use Perspective”.
“Min” are minutes per day.
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What happens in recessions and booms?
In recessions, the rate of job destruction increases.
This leads to high u, lower v, and a movement along the Beveridge
curve.
recession
boom
So far, the models have not matched the dynamics quite right, probably
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because the wage determination is misspecified.
U.S. Beveridge curve
4.5
2001
4.0
Has the Beveridge
curve shifted out in
Great Recession?
Vacancy rate
3.5
Very worrisome for
the level of full
employment
(NAIRU/natural rate).
3.0
2012
2.5
2008
Is it temporary or
permanent?
2.0
1.5
3
4
5
6
7
8
9
10
Unemployment rate
Bureau of Labor Statistics
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Final Thoughts on Unemployment
Unemployment exists because of frictions in labor markets
as people and firms try to find good matches.
Unemployment rises in recessions as jobs are destroyed
because output rises less rapidly than potential output
(for Keynesian reasons)
Equilibrium (full employment) unemployment can be
affected by labor-market policies that improve matching,
searching, skills, and the like
… but these will not help in deep recessions where the
constraint is inadequate aggregate demand.
People are worried today about the impact of the long
recession on the level of mismatch.
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