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Unemployment dynamics and informality in small open economies

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  • Horvath, Jaroslav
  • Yang, Guanyi

Abstract

Despite the typically more pronounced aggregate fluctuations in emerging market economies (EMEs), this paper documents that EMEs exhibit lower relative volatility and countercyclicality of the unemployment rate than small open advanced economies. We link these differences to the larger informal economy in EMEs. We build a small open economy model that combines a formal sector featuring labor search frictions with a frictionless informal sector. A larger informal sector amplifies the impact of productivity and interest rate shocks on formal output, consumption, and employment, while dampening their impact on unemployment. Varying the degree of informality explains a significant fraction of differences in unemployment dynamics across small open economies.

Suggested Citation

  • Horvath, Jaroslav & Yang, Guanyi, 2022. "Unemployment dynamics and informality in small open economies," European Economic Review, Elsevier, vol. 141(C).
  • Handle: RePEc:eee:eecrev:v:141:y:2022:i:c:s0014292121002427
    DOI: 10.1016/j.euroecorev.2021.103949
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    Cited by:

    1. Emilio Colombo & Davide Furceri & Pietro Pizzuto & Patrizio Tirelli, 2022. "Fiscal Multipliers and Informality," IMF Working Papers 2022/082, International Monetary Fund.

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    More about this item

    Keywords

    Informal economy; Labor market frictions; Emerging markets; Business cycles;
    All these keywords.

    JEL classification:

    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • F44 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Business Cycles
    • J64 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment: Models, Duration, Incidence, and Job Search

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