Macroeconomics of

the Labor Market

By Christian Merkl

CES-Lecture 1:
Stylized Facts of the Labor Market

Munich, August 2013

 Outline 1

Labor markets and the business cycle

1. Stylized facts
Descriptive view on the labor market
Comparison: United States and Germany
Reference point for model simulations

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 Outline 2

2. Establish canonical search and matching

model in partial equilibrium
Derivation of key equations
Model vis--vis data?
Simulation results
Simple analytics
Problems and potential solutions

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 Outline 3

3. Electives (all closely related to my own

research):
Alternative labor market framework (labor
selection)
Monetary and/or fiscal policy and the labor
market
Evaluating labor market policy measures in a
search and matching framework (example:
German short-time work)
Heterogeneity based matching function
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 Target Group of this Lecture

This lecture is targeted towards PhD students /

researchers who
would like to get an introduction/overview about macro
labor topics.
may have started reading macro labor articles on their
own and who would like to discuss open questions.
would like to discuss potential research topics.
would like to discuss about data availability /
comparability / German data (although my
comparative advantage is more on the theory side).

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 RULES OF THE LECTURE

I assume that the background of the audience is

quite heterogeneous. Thus, my slides explain
many concepts in detail (e.g. the Hodrick-
Prescott-filter, derivation of search and matching
model).
BUT if we figure out that some of these concepts
are very familiar to a big majority, I can speed up
or skip some parts and make more room for stuff
that is more interesting to you.
Please interrupt me and ask whenever necessary!
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 Trend and Cycles

Many macroeconomic time series (e.g. GDP) are

not stationary. Thus, establishing stylized facts
based on these raw series would generate
spurious correlations.
In addition, business cycle researcher are not
interested in the trend component ( growth
theory).
There are various ways of decomposing trend and
cycle.
The most common one is the Hodrick Prescott
filter.
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 Trend and Cycles:
Example

US GDP
14000

13000

12000

11000

10000
GDP

9000

8000

7000

6000

5000

4000
70 75 80 85 90 95 00 05 10 12
Year

U.S. real GDP

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 Trend and Cycles:
Hodrick-Prescott Filter

y is the time series, g is the growth component and c is the cyclical component

See Hodrick and Prescott (1997) for details

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 Trend and Cycle:
The Smoothing Parameter
Two different smoothing parameters, lambda=1600 (red line) and
lambda=100,000 (black line)

GDP
9.8

9.6

9.4
GDP and HP-trend, in logs

9.2

8.8

8.6

8.4

8.2
70 75 80 85 90 95 00 05 10 12
Year

Lambda infinity linear trend 10 Lehrstuhl fr VWL

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 Disentangling Growth and Cycles:
The Cycle
Cycle=Ln(Y)-HP(ln(Y))
GDP
0.04

0.03

0.02
Cyclical component of GDP

0.01

-0.01

-0.02

-0.03

-0.04

-0.05
70 75 80 85 90 95 00 05 10 12
Year

Can our simple HP-filter identify booms and recessions properly?

Please try to identify well-known events!
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 Trend and Cycles:
Intermediate Results

The HP filter is a convenient (although ad hoc)

tool to decompose trends and cycles.
Thus, from now onwards, I will use HP-filtered
data in this stylized facts section (unless otherwise
mentioned).

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 Stylized Facts

1. Stylized Facts for the United States

The matching function
The Beveridge curve
Amplification effects
The role of job findings versus separations
2. How about Germany?

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 The Matching Function

ln M t 0 1 ln Vt 2 ln U t
where M is the number of matches, V is the
number of vacancies and U is unemployment.
The literature probably contains hundreds of
these estimations (starting with Blanchard and
Diamond 1990). Bottom line:
Evidence for a matching function (i.e. beta 1 and
beta2 are statistically significant).
Usually evidence for Cobb-Douglas form.
Often evidence for constant returns (i.e. 1 ).
1 2

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 The Beveridge Curve

US-Beveridge curve from 1951 to 2003 (quarterly data). Shimer (2005, p. 30).
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 The Beveridge Curve and
the Great Recession

Source: https://sites.google.com/site/robertshimer/
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 0
0,1
0,2
0,3
0,4
0,5
0,6
0,7
19480101
19500801
19530301
Definition:

19551001
19580501
19601201
19630701
19660201
19680901
19710401
19731101
19760601
JFRt

19790101
19810801
19840301
Mt
U t 1

19861001
19890501
19911201
19940701
19970201
19990901
20020401
20041101
20070601
20100101
20120801
JFR

Remark: monthly averages! For details see Shimer (2012).

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JFRShimer
The Job Finding Rate

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 Definition:

0
0,01
0,02
0,03
0,04
0,05
0,06

19480101
19510701
19550101
19580701
19620101
19650701
19690101
t

19720701
19760101
19790701
St
N t 1

19830101
19860701
19900101
19930701
19970101
20000701
20040101
20070701
20110101
Remark: monthly averages! For details see Shimer (2012).
SepRate
SepQShimer

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The Separation Rate

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 Amplification Effects

Shimer (2005, p. 28). 19 Lehrstuhl fr VWL

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 What Drives Unemployment Dynamics?

Labor market with two states n and u:

ut srt 1 ut 1 (1 jfrt )ut 1

In steady state:
sr
u
sr jfr

Apply variance decomposition

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 Do Separations Matter?

For many years, students of the labor market believed that

recessionsperiods of sharply rising unemploymentwere
the result of higher separation rates from jobs as well as lower
job-finding rates. In this view, a recession begins with a wave
of layoffs, mainly in cyclical durable-goods industries. As the
labor market becomes clogged with job-seekers, job-finding
rates go down and the duration of unemployment rises. The
second part of this account is not in dispute. () But new
research and new data have challenged the first part. The
new view is that separations are not an important part of the
story of rising unemployment in recessions. Unemployment is
high in a recession because jobs are hard to find, not because
more job-seekers have been dumped into the labor market by
elevated separation rates.
Robert Hall (2006, p. 101)
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 The Hall Proposition

Hall (2006). Alternatively: NBER, WP. No. 11678, p. 6.

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 Much Debate about Little Difference?

Fujita and Ramey (2009) argue that separations

explain between 40 and 50% of unemployment
fluctuations.
Shimer (2012) that the separation rate accounts for
about 25%. In some robustness checks, it is
somewhat more.
In the end, the differences seem to be driven by
different methods (e.g. related to filtering: HP versus
first differences).
Thus, lets conclude that the job-finding rate drives
roughly one half to three quarters of unemployment
fluctuations.
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 Intermediate Results: Stylized Facts
for the United States

Stylized facts:
1. Matching function
2. Beveridge curve (although shifted or twisted in Great
Recession)
3. Amplification effects
4. Job finding rate seems to be (somewhat) more
important than separation rate for unemployment
fluctuations.

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 How about Germany?

Interesting case: completely different labor market

institutions, e.g. larger firing costs, strong union
coverage. Much smaller labor market flows.
Excellent administrative labor market data
Problem: comparability issue (e.g. survey
unemployment versus registered unemployment)

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 The Beveridge Curve

Gartner, Merkl and Rothe (2009) 26 Lehrstuhl fr VWL

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 Amplification:
Germany versus US

Gartner, Merkl and Rothe (2012) 27 Lehrstuhl fr VWL

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Visual Inspection

Gartner, Merkl and Rothe (2012),

VoxEU

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 Job Finding Rate versus
Separation Rate

What drives unemployment fluctuations?

There seems to be even less consensus.
Some attribute almost no role to the separation
rate (Bachmann 2005).
Others attribute a very strong role to separations
(Jung and Kuhn 2009).
Reason: Treatment of out of the labor force!!!

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 Comparison of stylized facts:
Germany versus US

Stylized facts:
1. Matching function can be found in both countries
2. Beveridge curve strong negative correlation in both
countries
3. Amplification effects seem to be even stronger in
Germany
4. Job-finding rate seems to be more important than
separation rate for unemployment fluctuations
probably most debated fact, even more so in
Germany!

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 Next steps

Lets derive the canonical search and matching

model.
How well is it able to replicate the stylized facts?

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 References

Bachmann, Ronald, 2005. Labour market dynamics in Germany: Hirings,

separations, and job-to-job transitions over the business cycle. SFB 649
Discussion Papers 2005-045, Humboldt University.
Blanchard, Olivier, and Diamond, Peter (1990). The Cyclical Behavior of the
Gross Flows of U.S. Workers. Brookings Papers on Economic Activity, Vol. 2,
pp. 85155.
Gartner, Hermann, Merkl, Christian, and Rothe Thomas (2012a). Sclerosis and
Large Volatilities: Two Sides of the Same Coin, Economics Letters, Vol. 117,
106-109.
Gartner, Hermann, Merkl, Christian, and Rothe Thomas (2012b). "The German
labour market: Low worker flows and large volatilities", VoxEU.org, 08.08.2012.
Gartner, Hermann, Merkl, Christian, and Rothe Thomas (2009). They Are Even
Larger! More (on) Puzzling Labor Market Volatilities, IZA Discussion Papers, No.
4403.
Hall, Robert (2006): Job Loss, Job Finding, and Unemployment in the US
Economy over the Past Fifty Years. NBER Macroeconomics Annual, Vol. 20, pp.
101-137.
Hodrick, Robert J. and Edward Prescott (1997): Postwar U.S. Business Cycles:
An Empirical Investigation. Journal of Money, Credit, and Banking, 29 (1), 1-16.
Jung, Philip, Kuhn, Moritz, 2009. Explaining cross-country labor market
cyclicality: U.S. vs. Germany. Mimeo.
Shimer, Robert (2005). The Cyclical Behavior of Equilibrium Unemployment and
Vacancies. American Economic Review, Vol. 95, No. 1, pp. 25-49.
Shimer, Robert (2012). Reassessing the Ins and Outs of Unemployment,
Review of Economic Dynamics , Vol. 15, 127148.
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