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Labor and Finance: Mortensen and Pissarides meet Holmstrom and Tirole

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  • Pietro Garibaldi
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    Abstract

    In real life labor markets firms hold at all times a variety of liquid assets not invested in their core business. Such external use of funds acts as an insurance against future adverse financial shocks, and typically varies across firms and sectors. As a result, different firms use different degrees of financial leverage. This paper investigates the consequence of firms' use of funds on their hiring and firing policy. Using a standard matching model of unemployment, the paper finds an equilibrium interplay between the value of unemployment and financial conditions. Financial market imperfections- such as the probability of refinancing or firms' share of their pleadgeable income- affect equilibrium unemployment. In this sense, the paper brings together the work on liquidity by Holmstrom anf Tirole (2011) with the traditional Mortensen Pissarides (2004) model of equilibrium unemployment. The model implies also that at times of adverse financial shocks, firms that are more leveraged are more likely to liquiditate their assets and destroy jobs. Empirically, we test whether there is a causal link between firms leverage and job destruction at times of adverse financial shocks. We draw on firm-level data on employment adjustment matched with balance sheet records throughout the Great Recession and find that highly leveraged firms destroy more jobs during a financial crisis.

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    Bibliographic Info

    Paper provided by Society for Economic Dynamics in its series 2013 Meeting Papers with number 775.

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    Date of creation: 2013
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    Handle: RePEc:red:sed013:775

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    1. Silvio Rendón, 2002. "Job Search And Asset Accumulation Under Borrowing Constraints," Economics Working Papers we025219, Universidad Carlos III, Departamento de Economía.
    2. Holmström, Bengt, 2013. "Inside and Outside Liquidity," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262518536, January.
    3. Olivier Blanchard, 2005. "European Unemployment: The Evolution of Facts and Ideas," NBER Working Papers 11750, National Bureau of Economic Research, Inc.
    4. Dale T. Mortensen & Christopher A. Pissarides, 1993. "Job Creation and Job Destruction in the Theory of Unemployment," CEP Discussion Papers dp0110, Centre for Economic Performance, LSE.
    5. Holmstrom, Bengt & Tirole, Jean, 1997. "Financial Intermediation, Loanable Funds, and the Real Sector," The Quarterly Journal of Economics, MIT Press, vol. 112(3), pages 663-91, August.
    6. Holmstrom, B & Tirole, J, 1996. "Private and Public Supply of Liquidity," Working papers 96-21, Massachusetts Institute of Technology (MIT), Department of Economics.
    7. Blanchard, Olivier Jean & Diamond, Peter, 1992. "The Flow Approach to Labor Markets," American Economic Review, American Economic Association, vol. 82(2), pages 354-59, May.
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