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Labor-Market Wedge under Engel Curve Utility: Cyclical Substitution between Necessities and Luxuries

Author

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  • Youngsung Chang

  • Andreas Hornstein

  • Marios Karabarbounis

Abstract

In booms, households substitute luxuries for necessities, e.g., food away from home for food at home. This cyclical pattern of composition changes in the consumption basket has the potential to reduce the volatility of measures of the labor-market wedge-the gap between the marginal rate of substitution and the real wage. Based on household expenditure patterns from the Consumer Expenditure Survey, we show that this composition bias has only a limited impact on the measured labor-market wedge, accounting for 6-16% of its cyclical volatility.

Suggested Citation

  • Youngsung Chang & Andreas Hornstein & Marios Karabarbounis, 2020. "Labor-Market Wedge under Engel Curve Utility: Cyclical Substitution between Necessities and Luxuries," Working Paper Series no130, Institute of Economic Research, Seoul National University.
    • Handle: RePEc:snu:ioerwp:no130
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