Aggregate demand, idle time, and unemployment

Pascal Michaillat and Emmanuel Saez

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: This article develops a model of unemployment fluctuations. The model keeps the architecture of the general-disequilibrium model of Barro and Grossman (1971) but takes a matching approach to the labor and product markets instead of a disequilibrium approach. On the product and labor markets, both price and tightness adjust to equalize supply and demand. Since there are two equilibrium variables but only one equilibrium condition on each market, a price mechanism is needed to select an equilibrium. We focus on two polar mechanisms: fixed prices and competitive prices. When prices are fixed, aggregate demand affects unemployment as follows. An increase in aggregate demand leads firms to find more customers. This reduces the idle time of their employees and thus increases their labor demand. This in turn reduces unemployment. We combine the predictions of the model and empirical measures of product market tightness, labor market tightness, output, and employment to assess the sources of labor market fluctuations in the United States. First, we find that product market tightness and labor market tightness fluctuate a lot, which implies that the fixed-price equilibrium describes the data better than the competitive-price equilibrium. Next, we find that labor market tightness and employment are positively correlated, which suggests that the labor market fluctuations are mostly due to labor demand shocks and not to labor supply or mismatch shocks. Last, we find that product market tightness and output are positively correlated, which suggests that the labor demand shocks mostly reflect aggregate demand shocks and not technology shocks.

JEL-codes: E10 E24 E30 J2 J64 (search for similar items in EconPapers)
Date: 2015-05
New Economics Papers: this item is included in nep-dge, nep-lab and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (88)

Published in Quarterly Journal of Economics, May, 2015, 130(2), pp. 507-569. ISSN: 0033-5533

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http://eprints.lse.ac.uk/61832/ Open access version. (application/pdf)

Related works:
Journal Article: Aggregate Demand, Idle Time, and Unemployment (2015)
Working Paper: Aggregate Demand, Idle Time, and Unemployment (2014)
Working Paper: Aggregate demand, idle time, and unemployment (2014)
Working Paper: Aggregate Demand, Idle Time, and Unemployment (2014)
Working Paper: Aggregate Demand, Idle Time, and Unemployment (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:61832

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