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Technology-policy interaction in frictional labor markets

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Author Info
Andreas Hornstein
Per Krusell
Giovanni L. Violante

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Abstract

Does capital-embodied technological change play an important role in shaping labor market outcomes? To address this question, we develop a model with vintage capital and search-matching frictions where irreversible investment in new vintages of capital creates heterogeneity in productivity among firms, matched as well as vacant. We demonstrate that capital-embodied technological change reduces labor demand and raises equilibrium unemployment and unemployment durations. In addition, the presence of labor market regulation - we analyze unemployment benefits, payroll and income taxes, and firing costs - exacerbates these effects. Thus, the model is qualitatively consistent with some key features of the European labor market experience, relative to that of the United States: it features a sharper rise in unemployment and a sharper fall in the vacancy rate and the labor share. A calibrated version of our model suggests that this technology-policy interaction could explain a sizeable fraction of the observed differences between the United States and Europe.

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Paper provided by Federal Reserve Bank of Richmond in its series Working Paper with number 06-10.

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Date of creation: 2006
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Handle: RePEc:fip:fedrwp:06-10

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Keywords: Technology

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