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Frictional Wage Dispersion in Search Models: A Quantitative Assessment

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Author Info
Andreas Hornstein
Per Krusell
Giovanni L. Violante

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Abstract

Standard search and matching models of equilibrium unemployment, once properly calibrated, can generate only a small amount of frictional wage dispersion, i.e., wage differentials among ex-ante similar workers induced purely by search frictions. We derive this result for a specific measure of wage dispersion -- the ratio between the average wage and the lowest (reservation) wage paid. We show that in a large class of search and matching models this statistic (the "mean-min ratio") can be obtained in closed form as a function of observable variables (i.e., the interest rate, the value of leisure, and statistics of labor market turnover). Various independent data sources suggest that actual residual wage dispersion (i.e., inequality among observationally similar workers) exceeds the model's prediction by a factor of 20. We discuss three extensions of the model (risk aversion, volatile wages during employment, and on-the-job search) and find that, in their simplest versions, they can improve its performance, but only modestly. We conclude that either frictions account for a tiny fraction of residual wage dispersion, or the standard model needs to be augmented to confront the data. In particular, the last generation of models with on-the-job search appears promising.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13674.

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Date of creation: Nov 2007
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Handle: RePEc:nbr:nberwo:13674

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Find related papers by JEL classification:
E24 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution
J24 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Human Capital; Skills; Occupational Choice; Labor Productivity
J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
J6 - Labor and Demographic Economics - - Mobility, Unemployment, and Vacancies
J64 - Labor and Demographic Economics - - Mobility, Unemployment, and Vacancies - - - Unemployment: Models, Duration, Incidence, and Job Search

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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Randall D. Cebul & James B. Rebitzer & Lowell J. Taylor & Mark E. Votruba, 2008. "Unhealthy Insurance Markets: Search Frictions and the Cost and Quality of Health Insurance," NBER Working Papers 14455, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  2. Carrillo-Tudela, Carlos & Smith, Eric, 2009. "Wage Dispersion and Wage Dynamics Within and Across Firms," IZA Discussion Papers 4031, Institute for the Study of Labor (IZA). [Downloadable!]
    Other versions:
  3. Juan J. Dolado & Marcel Jansen & Juan F. Jimeno, 2008. "On the job search in a matching model with heterogeneous jobs and workers," Banco de España Working Papers 0813, Banco de España. [Downloadable!]
    Other versions:
  4. Burdett, Ken & Carrillo-Tudela, Carlos & Coles, Melvyn, 2009. "Human Capital Accumulation and Labour Market Equilibrium," IZA Discussion Papers 4215, Institute for the Study of Labor (IZA). [Downloadable!]
  5. Ken Hori, 2007. "Wage-Directed Job Match with Multiple Applications and Multiple Vacancies: The Optimal Job Application Strategy and Wage Dispersion," Birkbeck Working Papers in Economics and Finance 0711, Birkbeck, Department of Economics, Mathematics & Statistics. [Downloadable!]
  6. Per Krusell, 2007. "EconomicDynamics Interviews Per Krusell on Search and Matching," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 8(2), April. [Downloadable!]
  7. Fernando Alvarez & Robert Shimer, 2008. "Search and Rest Unemployment," NBER Working Papers 13772, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  8. Andreas Hornstein & Per Krusell & Giovanni L. Violante, 2006. "Technology-policy interaction in frictional labor markets," Working Paper 06-10, Federal Reserve Bank of Richmond. [Downloadable!]
    Other versions:
  9. Giovanni L. Violante & Per Krusell & Andreas Hornstein, 2006. "Technical appendix for "Frictional wage dispersion in search models: a quantitative assessment"," Working Paper 06-08, Federal Reserve Bank of Richmond. [Downloadable!]
  10. Fatih Guvenen & Burhanettin Kuruscu, 2007. "A Quantitative Analysis of the Evolution of the U.S. Wage Distribution: 1970-2000," NBER Working Papers 13095, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  11. Kenneth Beauchemin & Murat Tasci, 2007. "Diagnosing labor market search models: a multiple-shock approach," Working Paper 0720, Federal Reserve Bank of Cleveland. [Downloadable!]
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