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Labour Market Rigidities, Trade and Unemployment

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  • Elhanan Helpman
  • Oleg Itskhoki

Abstract

We study a two-country, two-sector model of international trade in which one sector produces homogeneous products and the other produces differentiated products. Both sectors are subjected to search and matching frictions in the labour market and wage bargaining. As a result, some of the workers searching for jobs end up being unemployed. Countries are similar except for frictions in their labour markets, such as efficiency of matching and costs of posting vacancies, which can vary across the sectors. The differentiated-product industry has firm heterogeneity and monopolistic competition. We study the interaction of labour market rigidities and trade impediments in shaping welfare, trade flows, productivity, and unemployment. We show that both countries gain from trade. A country with relatively lower frictions in the differentiated-product industry exports differentiated products on net. A country benefits from lowering frictions in its differentiated sector's labour market, but this harms the country's trade partner. Alternatively, a simultaneous, proportional lowering of labour market frictions in the differentiated sectors of both countries benefits both of them. The opening to trade raises a country's rate of unemployment if its relative labour market frictions in the differentiated sector are low, and it reduces the rate of unemployment if its relative labour market frictions in the differentiated sector are high. Cross-country differences in rates of unemployment exhibit rich patterns. In particular, lower labour market frictions do not ensure lower unemployment, and unemployment and welfare can both rise in response to falling labour market frictions and falling trade costs. Copyright , Wiley-Blackwell.

Suggested Citation

  • Elhanan Helpman & Oleg Itskhoki, 2010. "Labour Market Rigidities, Trade and Unemployment," Review of Economic Studies, Oxford University Press, vol. 77(3), pages 1100-1137.
  • Handle: RePEc:oup:restud:v:77:y:2010:i:3:p:1100-1137
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    File URL: http://hdl.handle.net/10.1111/j.1467-937X.2010.00600.x
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    More about this item

    JEL classification:

    • F12 - International Economics - - Trade - - - Models of Trade with Imperfect Competition and Scale Economies; Fragmentation
    • F16 - International Economics - - Trade - - - Trade and Labor Market Interactions
    • J64 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment: Models, Duration, Incidence, and Job Search

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