The Marginal Propensity to Hire

Davide Melcangi

No 807, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: This paper studies the link between firm-level financial constraints and employment decisions, as well as the implications for the propagation of aggregate shocks. I exploit the idea that, when the financial constraint binds, a firm adjusts its employment in response to cash flow shocks. I identify such shocks from changes to business rates, a UK tax based on a periodically estimated value of the property occupied by the firm. A 2010 revaluation implied that similar firms, occupying similar properties in narrowly defined geographical locations, experienced different tax changes, allowing me to control for confounding shocks to local demand. I find that, on average, for every £1 of additional cash flow, 39 pence are spent on employment. I label this response the Marginal Propensity to Hire (MPH). I then calibrate a firm dynamics model with financial frictions towards this empirical evidence. As in the data, small and leveraged firms in the model have a greater MPH. Simulating a tightening of credit conditions, I find that the model can account for much of the decline in UK aggregate output and employment observed in the wake of the financial crisis.

Date: 2018
New Economics Papers: this item is included in nep-dge and nep-mac
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Citations: View citations in EconPapers (8)

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Working Paper: The marginal propensity to hire (2018)
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