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Changing Jobs to Fight Inflation: Labor Market Reactions to Inflationary Shocks

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Abstract

We argue that inflationary shocks affect allocative efficiency by changing the rate and the characteristics of workers’ job-to-job transitions. First, using monetary policy shocks and survey data on search effort, we empirically show that a one percentage point rise in inflation increases job-to-job transitions by up to 4.5%, and workers with higher inflation expectations are more likely to search and do so more effectively. Second, we build a general equilibrium model of directed on-the-job search to quantify the aggregate implications of labor market reactions. Higher-than-expected inflation reduces real wages, prompting workers to search more actively and aim lower. This increases job-to-job transitions but lowers the efficiency gains per transition. Therefore, the effect on output is ambiguous. Last, we calibrate the model to the U.S. economy. Inflationary shocks increase reallocation rates, yet allocative efficiency and output decline. Small deflationary shocks (e.g., 2%) increase output in the short run, while others decrease it.

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  • Gorkem Bostanci & Omer Koru & Sergio Villalvazo, 2025. "Changing Jobs to Fight Inflation: Labor Market Reactions to Inflationary Shocks," Finance and Economics Discussion Series 2025-042, Board of Governors of the Federal Reserve System (U.S.).
    • Handle: RePEc:fip:fedgfe:2025-42
    DOI: 10.17016/FEDS.2025.042
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    References listed on IDEAS

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    1. Mark Gertler & Peter Karadi, 2015. "Monetary Policy Surprises, Credit Costs, and Economic Activity," American Economic Journal: Macroeconomics, American Economic Association, vol. 7(1), pages 44-76, January.
    2. Christina D. Romer & David H. Romer, 2004. "A New Measure of Monetary Shocks: Derivation and Implications," American Economic Review, American Economic Association, vol. 94(4), pages 1055-1084, September.
    3. Druant, Martine & Fabiani, Silvia & Kezdi, Gabor & Lamo, Ana & Martins, Fernando & Sabbatini, Roberto, 2012. "Firms' price and wage adjustment in Europe: Survey evidence on nominal stickiness," Labour Economics, Elsevier, vol. 19(5), pages 772-782.
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    Keywords

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    JEL classification:

    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials

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