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Aggregate and Idiosyncratic Risk in a Frictional Labor Market

  • Leena Rudanko

    ()

    (Boston University, Department of Economics)

Economists face difficulties explaining the strong cyclicality of US unemployment. This paper contributes both by developing modeling tools and evaluating a potentially important explanation. The paper develops a parsimonious equilibrium model of job search with aggregate productivity shocks, where i) workers face incomplete markets, and ii) wages are determined via optimal long-term contracts. Despite the large state space associated with long-term contracting, the equilibrium has a simple representation as a small system of differential equations. Incomplete markets amplify fluctuations in unemployment, and the results suggest an upper bound on how far they can go in explaining unemployment cyclicality.

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Paper provided by Boston University - Department of Economics in its series Boston University - Department of Economics - Working Papers Series with number wp2008-009.

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Length: 47
Date of creation: Jul 2008
Date of revision:
Handle: RePEc:bos:wpaper:wp2008-009
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