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The Labor Market Consequences of Adverse Financial Shocks

The Labor Market Consequences of Adverse Financial Shocks. Tito Boeri and Pietro Garibaldi World Bank . November 19, 2011. Outline. The Issue , the Questions , the Results Basic Facts Literature Review The Mechanism Empirical Strategy Results Policy and Conclusions.

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The Labor Market Consequences of Adverse Financial Shocks

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  1. The Labor Market Consequences of Adverse Financial Shocks Tito Boeri and Pietro Garibaldi World Bank. November 19, 2011

  2. Outline • The Issue, the Questions, the Results • BasicFacts • LiteratureReview • The Mechanism • EmpiricalStrategy • Results • Policy and Conclusions

  3. The Key Issue • During the Great Recession(2008-2009), muchlargerlabor market response in the US than in Europe • Ifanything, increasinglabour market flexibility in Europe(dualism) shouldhaveincreasedvolatilityofemployment/unemployment • Oneshouldprobably look at finance, and explorelinksbetweenfinancialshocks and labormarket dynamics

  4. The Key Questions • Is it true that financial shocks (financial recessions) amplify labor market volatility? • Which are the links between financial shocks and labor market dynamics? • How does a credit crunch translate into job destruction and unemployment? • How financial crises interact with traditional business cycle dynamics?

  5. The Key Results • 1) Financial recessions do amplify Okun’selasticities • 2) Conditional on a financial shock, some evidence that • 2.1 more leveraged sector/countries experience larger volatility (job destruction effect) • 2.2 the nightmare situation is high leverage and low epl (triple interaction) • 2.3. the individual probability of moving is adversely affected by presence of mortgage (job creation effect) • 3) We confirm that financial deepening has growth effects in normal times

  6. Outline • The Issue, the Questions, the Results • BasicFacts • LiteratureReview • The Mechanism • EmpiricalStrategy • Results • Policy and Conclusions

  7. 1. Fromthe “Great Moderation”tothe “Great Volatility” • Estimate oftimevaryingOkun’s betas (rollingregressions, 5 yearswindow) for the G7 as a whole • y denotes GDP and u is the unemployment rate, both measured at quarterly frequencies • Is the Great Moderationover and the Great Volatilityiscoming back?

  8. 2. Financial recessionsare differentanimals • Compare employmentto output elasticityduring the Great Recessionswithpreviousfinancialaswellasnon-financialcrises (Reinhart and Rogoff , 2008 taxonomy) • Welook at average“β” coefficientsforfinancialcrises and otherrecessions • Financial Criseshavedifferenteffects on EmploymentthanotherRecessions?

  9. (1) Harding and Pagan

  10. Literature Review • Notmuch on linksbetweenfinancialcrises and labor market dynamics • More on (steady state) interactionsbetweenfinancial and laborfrictions. Ambiguouspredictions: • Rendon (2000), Belke and Fehn (2002) easy access by firms to financial markets as a substitute for labour market flexibility • Financial market liberalisation complementary to labor market deregulation (Boeri , Galasso and Conde-Ruiz, 2006; Wasmer and Weil, 2003;).

  11. Outline • The Issue, the Questions, the Results • BasicFacts • LiteratureReview • The Mechanism • EmpiricalStrategy • Results • Policy and Conclusions

  12. The Job Destruction(JD) Effect • More leveragedfirms and more financialdeepening can certainlybegrowthenhancingover the medium term • Yet, whathappenswhen a more leveragedsectorexperiences a financial shock and liquidityissuddenlypulled back? • The lackofliquidity can forcefirmsto liquidate projectsaswellasjobs, thusenhancing job destruction. • It’s a labordemandeffect

  13. The WorkerReallocation (WR) Effect • Workers need financial markets and mortages to finance real estate investment • Over the medium run, more financial deepening likely to increase workers ability to move across space and facilitate real estate investments • Yet, during a financial crisis, real estate prices drop, workers face risk of negative equity and mobility is reduced • This mobility effect of finance can increase unemployment at given vacancy rates • It is a labor supply effect

  14. Outline • The Issue, the Questions, the Results • BasicFacts • LiteratureReview • The Mechanism • EmpiricalStrategy • Results • Policy and Conclusions

  15. EmpiricalStrategy: I The JD effect • Eploitthreesourcesofvariation (country, time, sector) toidentify the first theoreticalmechanismsoutlinedabove • Macro data fromOecd and Imf. Twosteps procedure • 1) first we run in each country a rolling regression of an employment to output equation of the type • where subscripts j and t index sectors and quarters. • 2) nextwe pool across countries the results of the first stage regression and we run a (weighted) regression of these elasticities against a number of institutional and financial variables

  16. Conditional on a financial shock, 2.1 more leveraged sector/countries experience larger volatility (job destruction effect) 2.2 the nightmare situation is high leverage and low epl (triple interaction) Identification come mainlyfromwithinvariation. Resultsare robusttoweightingby SE first stage coeff, exclusionof zero gammas, etc. SummaryofResults on JD effect

  17. EmpiricalStrategy: II. The WR effect • Estimate probitmodels (using micro data from ECHP, 1994-2001) for the probabilityofmovingin general and specificallyforforjob relatedreasons • Useofretrospective information on mobility • Data on personal characteristics and assets • Conditionalon a financial shock, does the presenceofmortgage reduce labourmobility

  18. Outline • The Issue, the Questions, the Results • BasicFacts • LiteratureReview • The Mechanism • EmpiricalStrategy • Results • FurtherResearch, preliminaryPolicy Conclusions

  19. Further work • Continuousmeasuresoffinancialstress (FSI)? • Measuresofuncertainty • Focus on the big 5? • EPL, temporaryemployment and leverageratios. Anothermechanism

  20. Policy so far • Financial deepeningisassociatedwithlessemploymentvolatility(and medium rungrowth). Thus, anorderlyfinancialdeepeningisdesirable • Yet, duringbusiness cyclesthings can really turn bad. • Preservejobs or preservefinancialinstitutions? During the Great Recessionmaybetoomuchemphasison savingfinancialinstitutionsratherthanon savingsjobs • Howto do that? Financingmore leveragedsectors? Extendingshort-time work? Subsidising job relatedmobility? • Importanttooperate on both JD and WReffects

  21. PreliminaryConclusions • First attempttoexplore the linksbetweenlaborand finance • Results • 1) Financial recessions do amplify Okun’selasticities • 2) Conditional on a financial shock, • 2.1 more leveraged sector/countries experience larger volatility (job destruction effect) • 2.2 the nightmare situation is high leverage and low epl (triple interaction) • 2.3. the individual probability of moving is adversely affected by presence of mortgage (labour mobility effect) • With and hindsight, maybe policy hadtobe more focused on savingsjobsratherthanfinancialinstitutions

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