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Reference-Dependence and Labor-Market Fluctuations

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  • Kfir Eliaz
  • Rani Spiegler

Abstract

We incorporate reference-dependent worker behavior into a search-matching model of the labor market, in which firms have all the bargaining power and productivity follows a log-linear AR(1) process. Motivated by Akerlof (1982) and Bewley (1999), we assume that existing workers’ output falls stochastically from its normal level when their wage falls below a "reference point", which (following Kőszegi and Rabin (2006)) is equal to their lagged-expected wage. We formulate the model game-theoretically and show that it has a unique subgame perfect equilibrium that exhibits the following properties: existing workers experience downward wage rigidity, as well as destruction of output following negative shocks due to layoffs or loss of morale; newly hired workers earn relatively flexible wages, but not as much as in the benchmark without reference dependence; market tightness is more volatile than under this benchmark. We relate these findings to the debate over the “Shimer puzzle” (Shimer (2005)).

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 19085.

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Date of creation: May 2013
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Publication status: published as Reference Dependence and Labor Market Fluctuations , Kfir Eliaz, Ran Spiegler. in NBER Macroeconomics Annual 2013, Volume 28 , Parker and Woodford. 2014
Handle: RePEc:nbr:nberwo:19085

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Citations

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Cited by:
  1. Holger Herz & Dmitry Taubinsky, 2013. "Market experience is a reference point in judgments of fairness," ECON - Working Papers 128, Department of Economics - University of Zurich.
  2. Eliaz, Kfir & Spiegler, Rani, 2012. "Reference Dependence and Labor-Market Fluctuations," CEPR Discussion Papers 8997, C.E.P.R. Discussion Papers.
  3. Rosato, Antonio, 2013. "Selling Substitute Goods to Loss-Averse Consumers: Limited Availability, Bargains and Rip-offs," MPRA Paper 47168, University Library of Munich, Germany.
  4. Kfir Eliaz & Ran Spiegler, 2014. "Managing Intrinsic Motivation in a Long-Run Relationship," Discussion Papers 1414, Centre for Macroeconomics (CFM).
  5. Vincent Boitier, 2013. "The Unemployment Volatility Puzzle: a Note on the Role of Reference Points," Working Papers hal-00878107, HAL.
  6. David Freeman, 2013. "Revealed Preference Foundations of Expectations-Based Reference-Dependence," Discussion Papers dp13-10, Department of Economics, Simon Fraser University.

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