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A Model of Aggregate Demand and Unemployment

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  • Pascal Michaillat
  • Emmanuel Saez

Abstract

We present a static model of aggregate demand and unemployment. The economy has a nonproduced good, a produced good, and labor. Product and labor markets have matching frictions. A general equilibrium is a set of prices, market tightnesses, and quantities such that buyers and sellers optimize given prices and tightnesses, and actual tightnesses equal posted tightnesses. In each frictional market,there is one more variable than equilibrium condition. To close the model, we take all prices as parameters. We obtain the following results: (1) unemployment and unsold production prevail in equilibrium; (2) each market can be slack, efficient, or tight if the price is too high, efficient, or too low; (3) product market tightness and sales are positively correlated under aggregate demand shocks but negatively correlated under aggregate supply shocks; (4) transfers from savers to spenders stimulate aggregate demand, product market tightness, and employment; (5) the government-purchase multiplier is positive when the economy is slack, zero when the economy is efficient,and negative when the economy is tight; (6) with unequal distribution of profits and labor income, a wage increase may stimulate aggregate demand and reduce unemployment.

Suggested Citation

  • Pascal Michaillat & Emmanuel Saez, 2013. "A Model of Aggregate Demand and Unemployment," CEP Discussion Papers dp1235, Centre for Economic Performance, LSE.
  • Handle: RePEc:cep:cepdps:dp1235
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    1. Jonathan Heathcote & Fabrizio Perri, 2018. "Wealth and Volatility," Review of Economic Studies, Oxford University Press, vol. 85(4), pages 2173-2213.
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    Cited by:

    1. Zhen Huo & Jose-Victor Rios-Rull, 2016. "Financial Frictions, Asset Prices, and the Great Recession," Staff Report 526, Federal Reserve Bank of Minneapolis.
    2. Ryan Chahrour & Sanjay K. Chugh & Tristan Potter, 2014. "Searching for Wages in an Estimated Labor Matching Model," Boston College Working Papers in Economics 867, Boston College Department of Economics, revised 20 Dec 2016.
    3. Landais, Camille & Michaillat, Pascal & Saez, Emmanuel, 2010. "Optimal unemployment insurance over the business cycle," LSE Research Online Documents on Economics 35596, London School of Economics and Political Science, LSE Library.
    4. Pascal Michaillat & Emmanuel Saez, 2014. "An Economical Business-Cycle Model," Discussion Papers 1425, Centre for Macroeconomics (CFM).
    5. Zhen Huo & Jose-Victor Rios-Rull, 2015. "Tightening Financial Frictions on Households, Recessions, and Price Reallocations," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 18(1), pages 118-139, January.
    6. Charpe, Matthieu & Kühn, Stefan, 2015. "Demand and supply effects of bargaining power shocks," Economic Modelling, Elsevier, vol. 51(C), pages 21-32.

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    More about this item

    Keywords

    Unemployment; aggregate demand; matching frictions;
    All these keywords.

    JEL classification:

    • E10 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - General
    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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