How does the common European labor market impact business cycle dynamics?

The common European labor market is creating a unified labor force that, according to economic theory, should smooth business cycles across countries and regions. In the literature, doubts remain about this implication, as labor markets are more rigid and internal migration is weaker in Europe compared to the US. This study presents a novel approach to examining the impact of labor mobility on business cycles. We incorporate migration decisions and imperfect labor markets into a dynamic stochastic general equilibrium framework and apply it to empirical data from Eurostat and the German Federal Employment Agency covering the period from 2011 to 2023. Our findings reveal that the common labor market helps to smooth out business cycles as productivity shocks direct labor to where it is needed. However, policymakers should reconsider border control measures, as migration-specific disutility shocks have become more influential since 2015, thereby weakening this channel.