Part B: Time Series Patterns in Labor Supply,Some Explanations
Trends in The Natural Rate In Unemployment Did labor market conditions improve during the 1980s and 1990s? - Unemployment rates fell substantially Related concept: Do income or substitution effects dominate with respect to labor supply decisions? Must reads: Murphy, Topel, and Juhn “Current Unemployment, Historically Contemplated” (Brookings Papers on Economic Activity, 2002(1)).
For a detailed analysis of the intersection of the role of disability and • labor supply, see Autor and Duggan’s: • “The Rise in the Disability Rolls and the Decline in Unemployment” • Show that during recessions, the disability margin is much more relevant • now than it was during the 1980s (the benefits to the disabled are now • more comparable to unemployment benefits than before). Autor and Duggan (QJE 2003)
Decline in unemployment rate may not represent accurately the trends in • labor market performance. • Large decline in participation rates for men. • Non employment has declined much less than unemployment. • The decline is much more pronounced for low wage men. • Does it tell us substitution effects are important? What about changes in • transfers? Conclusions
Part C: A Recent Story – Elsby and Shapiro (AER, 2011)Why Does Trend Growth Affect Equilibrium Employment? A New Explanation of an Old Puzzle(Note: I am using some of Elsby’s slides)
Existing Explanations • Juhn, Murphy, and Topel (1991, 2002) suggest decline in demand for low-skilled labor in 1970s and 1980s. • Autor & Duggan (2003), Bound & Waidmann (1992) suggest increase in generosity of disability insurance accounts for declines in employment rates among older men (45+).
Our Contribution • We emphasize the role of wage growth in reducing work incentives through 2 channels: • Reductions in the returns to experience among low-skilled workers; and • Reductions in the rate of aggregate wage growth that accompanied the productivity slowdown.
Preview of Findings Given observed trends in wage growth we find that the model can account for: • Most of the long run rise in nonemployment among high school dropouts. • One half of the rise in economy-wide nonemployment. • The observed age structure of these effects.
The Basic Idea Consider the following simple problem: • Infinitely lived worker • Once-and-for-all decision at start of working life between: • Working forever; and • Not working forever. • What is the optimal labor supply policy?
The Decision to Work Work Forever Not Work Forever Do not accumulate x Payoff: • Accumulate experience, x • Payoff: • Present value: • Present value:
The Reservation Wage It follows that the worker will choose to work if: where:
Steady State Employment Imagine an economy populated by workers facing different wages, and different payoffs from nonemployment, Then, aggregate employment is given by: where Ω = c.d.f. of ω/β & ρ = replacement rate (bi/wi).
Implications of Simple Model • [Well understood.] Increases in ρ,the replacement rate, reduce L*. • In the long run, it must be that gb= gw. Otherwise, ρ = b(t)/w(0,t) → 0 or ∞, and L*→0 or 1 in the limit. Thus,
Implications of Simple Model • Increases in the return to experience gx reduce α and raise aggregate employment. • gx > 0 drives reservation wage below payoff from nonemployment. • Future returns to work forgo current earnings. • Increases in gx reduce res. wages still further. • Effect will be powerful since r – gw likely small.
Implications of Simple Model • Increases in aggregate wage growth gw reduce α and raise aggregate employment, IFF gx > 0. • Increases in gw have a greater impact on PV of earnings for those in work—they compound the return to experience. • N.B. this effect is absent if gx = 0! Relates to Blanchard’s neutrality critique: when gx = 0, gw is neutral w.r.t. employment.