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The Effect of Labor and Financial Frictions on Aggregate Fluctuations

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  • Francesco Zanetti
  • Haroon Mumtaz

Abstract

This paper embeds labor market search frictions into a New Keynesian model with financial frictions as in Bernanke, Gertler and Gilchrist (1999). The econometric estimation establishes that labor market frictions substantially improve the empirical fit of the model. The effect of the interaction between labor and financial frictions on aggregate fluctuations depends on the nature of the shock. For monetary policy, technology and entrepreneurial wealth shocks, labor market frictions amplify the effect of financial frictions since robust changes in hiring lead to persistent movements in employment and the return on capital that reinforce the original effect of financial frictions. For cost-push, labor supply, marginal efficiency of investment and preference shocks, labor market frictions dampen the effect of financial frictions by reducing the real cost of repaying existing debt that lowers the exernal finance premium.

Suggested Citation

  • Francesco Zanetti & Haroon Mumtaz, 2013. "The Effect of Labor and Financial Frictions on Aggregate Fluctuations," Economics Series Working Papers 690, University of Oxford, Department of Economics.
  • Handle: RePEc:oxf:wpaper:690
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    File URL: http://www.economics.ox.ac.uk/materials/papers/13171/paper690.pdf
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Mumtaz, Haroon & Zanetti, Francesco, 2015. "Factor adjustment costs: A structural investigation," Journal of Economic Dynamics and Control, Elsevier, vol. 51(C), pages 341-355.
    2. Yaprak Tavman, 2015. "A comparative analysis of macroprudential policies," Oxford Economic Papers, Oxford University Press, vol. 67(2), pages 334-355.
    3. Francesco Zanetti, 2015. "Financial Shocks and Labor Market Fluctuations," Economics Series Working Papers Number 746, University of Oxford, Department of Economics.
    4. Gabor Pinter, 2015. "House Prices and Job Losses," Discussion Papers 1507, Centre for Macroeconomics (CFM).
    5. Tatiana Kirsanova & Charles Nolan & Maryam Shafiei Deh Abad, 2016. "Deep Recessions and Slow Recoveries," Working Papers 2016_11, Business School - Economics, University of Glasgow.
    6. Eleni Iliopulos & François Langot & Thepthida Sopraseuth, 2014. "Welfare Cost of Fluctuations: when Labor Market Search Interacts with Financial Frictions," Documents de travail du Centre d'Economie de la Sorbonne 14042, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne.
    7. Boris Blagov & Michael Funke, 2016. "The Credibility of Hong Kong's Currency Board System: Looking Through the Prism of MS-VAR Models with Time-Varying Transition Probabilities," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 78(6), pages 895-914, December.
    8. Smets, Frank & Villa, Stefania, 2016. "Slow recoveries: Any role for corporate leverage?," Journal of Economic Dynamics and Control, Elsevier, vol. 70(C), pages 54-85.
    9. José García-Montalvo & Josep M. Raya, 2017. "Constraints on LTV as a Macroprudential Tool: A Precautionary Tale," Working Papers 1008, Barcelona Graduate School of Economics.
    10. José Garcia Montalvo & Josep M. Raya, 2017. "Constraints on LTV as a macroprudential tool: a precautionary tale," Economics Working Papers 1592, Department of Economics and Business, Universitat Pompeu Fabra.

    More about this item

    Keywords

    Financial frictions; search and matching frictions; New Keynesian model;

    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
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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