Why Does Trend Growth Affect Equilibrium Employment? A New Explanation of an Old Puzzle

Michael Elsby and Matthew Shapiro

American Economic Review, 2012, vol. 102, issue 4, 1378-1413

Abstract: That the employment rate appears to respond to changes in trend growth is an enduring macroeconomic puzzle. This paper shows that, in the presence of a return to experience, a slowdown in productivity growth raises reservation wages, thereby lowering aggregate employment. The paper develops new evidence that shows this mechanism is important for explaining the growth-employment puzzle. The combined effects of changes in aggregate wage growth and returns to experience account for all the increase from 1968 to 2006 in nonemployment among low-skilled men and for approximately half the increase in nonemployment among all men. (JEL E24, J24, J31)

Date: 2012
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