Chapter Study Outline

23.1 The Flow Approach to Labor Markets

  • Until recently economists were forced to study net employment changes because of data limitations
    • The market seemed to be a rather tranquil place, with quarterly fluctuations occurring in the ±1.5 percent range.
    • In a series of seminal papers, Haltiwanger, Davis, and Schuh demonstrated that the U.S. labor market is actually profoundly dynamic, both from the perspective of employers and from the perspective of workers.
  • During any given quarter, millions of new jobs are created by expanding employers and millions of jobs are simultaneously destroyed by contracting employers.
  • Every quarter, millions of workers move between the states of unemployment, employment, and nonparticipation in the labor force.
    • These flows are symptomatic of the process of creative destruction, in which the new supplants the old.
    • The unremitting reshuffling of workers and jobs is the means by which scarce resources (capital and labor) are reallocated from less to more productive uses.
  • The analysis of labor-market flows is built around the definition of a job as a position that is currently filled by a worker so that the level of employment must be equal to the number of jobs.
  • The number of jobs that are created and the number that are destroyed during a given time period are termed gross job flows.
  • Let Et denote the level of employment at some time t.
    • The net change in total employment is the change in employment from some date t to some date t-1 is Et - Et - 1.
    • JCt is the gross number of jobs created by new and expanding establishments, while JDt is the gross number of jobs destroyed by contracting and closing establishments,
    • Flow rates are defined by dividing each gross number by the average level of employment over the period, .
    • The gross job-creation rate, for example, is equal to .
  • From the worker’s perspective, total separations, LSt, denotes the grows outflow of workers from employment to nonemployment and total accessions, LHt, denotes the gross inflow of nonemployed workers into employment.
  • Each job is defined to be filled with only one worker so it must be true that JCt - JDt = LHt - LSt.
  • Total reallocation or reshuffling of jobs and workers is equal to LHt + LSt.
  • Job churning arises because employers simultaneously create and destroy jobs over a given period of time.
  • Worker churning arises because some workers become employed and others simultaneously become nonemployed.
  • The size of these flows is defined as excess flows or the flows over and above those required given net change in employment.

23.2 Worker and Job Flows: The Evidence

  • During the time period from 1991 through 2009, gross job flow rates were extremely high, with an average of 1 out of 12 jobs destroyed in any quarter and a slightly higher number created.
  • The magnitudes of gross job flow rates fluctuate over time in rough accordance with the business cycle.
  • Davis, Haltiwanger, and Schuh’s seminal studies provide several insights into the forces that drive the processes of job creation and job destruction.
    • Most of the job flows observed over the course of a year represent highly persistent changes at the plant level.
    • Gross job flows are concentrated at plants that experience large changes in employment.
    • Small businesses, contrary to popular opinion, are not the main creators of new jobs.
    • Large mature firms account for the bulk of gross job flows.
    • Gross job flow rates show little relationship to either import-based or export-based measures of international trade.
  • There is considerable permeability between the states of being unemployed and not in the labor force.
    • Over a given quarter, the number of workers who make the transition from not in the labor force to employment dwarfs the number who make the transition from unemployment to employment.

23.3 The Stock-Flow Approach: Steady-State Unemployment

  • The stock-flow approach is grounded in the principle that changes in the unemployment stock are driven by inflows into unemployment and outflows from it.
    • Those who make the transition from not-in-the-labor-force to the unemployment state are one source of inflow.
    • Those who make the transition from employment to unemployment are another source of inflow.
    • The outflow from the unemployment pool emerges as either employed or drops out of the labor force altogether.
    • The unemployment stock is continually repopulated by the respective inflows and outflows of workers.
    • The inability to find instant work is the hallmark of the stock-flow approach and stems from significant trade frictions.
  • The stock-flow approach implies that there is a steady state in which levels of unemployment and employment remain constant over time.
  • The stock-flow approach also implies that the labor market possesses a self-correcting tendency that drives it to its steady state.
  • By modeling the sources of employment flows, economists can model the level of the unemployment rate itself.

23.4 Matching

  • Unlike a competitive environment, in which workers can immediately find jobs at the going wage, the process of finding work is time-consuming because of an assortment of search frictions.
  • The hallmark of the matching framework is that it explicitly models the search frictions that interfere in the job-finding process by using a matching technology.
  • The matching model can be used to analyze the effects of an assortment of changes in the economic environment on the stead-state unemployment rate.
  • The two main building blocks of the matching model are the steady-state and equilibrium-entry loci.
    • The steady-state locus captures the process by which workers and firms meet in the labor market.
    • The equilibrium-entry locus describes the entry of new vacancies into the market.
  • The Beveridge curve refers to the observed statistical relationship between the level of unemployment and the number of open vacancies.
    • The position of the Beveridge curve depends on the technology governing labor-market transactions.
    • An improvement in the labor-market transaction technology will shift the Beveridge curve inward.

23.5 Job Destruction

  • Worker-employer matches dissolve for a variety of different reasons
    • A large number of plants contract during any given quarter, shedding large numbers of workers who often enter the unemployment pool.
    • A large number of workers also quit their jobs and either drop out of the labor force or enter the unemployment pool.
  • The steady-state unemployment rate depends critically on the job breakup rate.
  • Mortensen and Pissarides (1994) examine the process of job destruction in the context of the matching model.
    • Jobs are periodically buffeted by shocks of one sort or another.
    • Employers dissolve a job if the shock crosses some optimal threshold value.
  • Hall (2004) and Shimer (2005) suggest that unemployment rises sharply during a recession because of a corresponding decline in the hiring rate
  • Recessions afford firms with excellent low-cost opportunities to implement beneficial productivity-improving changes but the evidence suggests that the jobs that are created are low quality.