Lecture 7: Unemployment and Imperfect Labor Markets

Transcription

1 Lecture 7: Unemployment and Imperfect Labor Markets Natalia Zinovyeva March 14, 2017 Lecture Slides 1 / 45

2 Outline 1. Supply of labor 2. Demand for labor 3. Labor market equilibrium Perfectly competitive markets; migration Unemployment and Imperfectly competitive labor markets (today) Technological change and polarization 2 / 45

3 Outline Unemployment Introduction Perfect Competition Labor Market Frictions Minimum wages Introduction Theory Empirical Evidence 3 / 45

4 Unemployment Unemployment is tightly related to business cycles, monetary and fiscal policy, and macroeconomic institutions of a country. The study of unemployment dynamics is therefore an important topic of macroeconomics. Note: Course on Macroeconomics of Labor Markets Here we will only briefly review some of the main explanations for unemployment. 4 / 45

5 Unemployment How unemployment is explained in: 1. the reference framework of perfect competition 2. labor markets with frictions 5 / 45

6 Unemployment under Perfect Competition In the model of perfect competition, wages always flexibly adjust such that labor supply equals labor demand at the current market wage. 6 / 45

7 Example: Impact of Immigration when all Workers are Homogeneous Dollars Supply w 0 w 1 Demand N 1 N 0 E 1 Employment Immigration shifts out the labor supply curve. As a result, the wage falls from w 0 to w 1, and total employment increases from N 0 to E 1. At the lower wage, the number of natives who work (voluntarily) declines from N 0to N 1.

8 Unemployment under Perfect Competition In the model of perfect competition, wages always flexibly adjust such that labor supply equals labor demand at the current market wage. There is only a distinction between participants and non-participants: Unemployed people are therefore non-participants who do not find it worthwhile to work because their reservation wage exceeds the market wage. However, it is very difficult to uphold the claim that unemployed workers are simply unwilling to work at current market wages. 8 / 45

9 Labor Market Frictions In reality, there are frictions (imperfections) of labor markets that can generate unemployment even for workers who would be willing to work at or below the current market wage: 1. inflexible wages 2. inflexible hours 3. search frictions 4. mismatch 5. inflexible hiring and firing 9 / 45

10 Inflexible Wages: Minimum Wages As we will discuss in detail below, under certain conditions minimum wages might have a negative effect on employment. Key assumption: competitive labor market Even in the context of a monopsonistic labor market, if minimum wages are set too high, they will always curb employment 10 / 45

11 The Impact of Minimum Wages: Perfect Competition Dollars S w * D Employment A minimum wage set at w results in employers cutting employment from E to E. The higher wage also encourages E S E workers to enter the market. Thus, under a minimum wage, E S E workers are unemployed.

12 The Impact of Minimum Wages: Perfect Competition Dollars S w w * D Employment A minimum wage set at w results in employers cutting employment from E to E. The higher wage also encourages E S E workers to enter the market. Thus, under a minimum wage, E S E workers are unemployed.

13 Inflexible Wages: Downwards Wage Rigidities During a recession, the productivity of labor might decrease. A reduction of wages may be perceived as unfair, and induce low effort. Surveys of human resource managers show that firms are indeed reluctant to cut nominal wages because they fear a decrease in workers motivation. 13 / 45

14 Inflexible Wages: Union Wages The bargaining process between unions and employers typically fixes wages for a certain period of time. If there is a negative demand shock, wages cannot adjust downwards. It is sometimes argued that unions care more about wage increases for employed workers than about employment creation. As a consequence, unions may negotiate for wages that are above the market clearing wage. 14 / 45

15 Inflexible Wages: Inflexible Hours During a recession, a firm with inflexible wages could in principle achieve the same reduction in labor cost by either laying off part of the workforce, or by reducing the work hours of most workers. However, changes in work hours are often impeded by inflexible work contracts. An exception is Germany where firms can apply for Kurzarbeit ( short work ). In this program, workers hours and earnings are temporarily reduced, and part of the reduction in earnings is offset by public benefits. Kurzarbeit helped Germany to go through the recession without an increase in unemployment, and to rapidly rebound in / 45

16 Inflexible Wages: Efficiency Wages It is often expensive for firms to continuously monitor the effort of their employees. Instead of continuous monitoring, firms may induce high effort by paying a efficiency wage which is above the market clearing wage. Workers who receive the efficiency wage will provide a good effort because they know that detection of poor effort in an occasional work control would result in job loss and a substantial decline in income. 16 / 45

17 Search frictions Standard labor market descriptions involve a large number of participants who trade at the same time. In reality, buyers and sellers face costs to locate each other. As a result, simultaneously there are both vacancies and unemployment in the labor market. Diamond (1971) found that even a small search cost moves the equilibrium price very far from the competitive price. Mortensen and Pissarides have expanded the theory and have applied it to the labor market. Example: more generous unemployment benefits give rise to higher unemployment and longer search times This does not mean that unemployment benefits are not desirable, it indicates that there is a trade-off between insuring workers against negative shocks and unemployment duration. UI may help to improve the quality of matches. (In Finland in 2000s, a 10% increase in unemployment protection (length and benefits) increased the unemployment duration by 5-8%, but it also increased the duration of the next job by about 2% (Kyyrä, Pesola, Rissanen 2017) 17 / 45

18 Inflexible Hiring/Firing: Employment Protection Legislation Some countries, particularly in Southern Europe, have a strong employment protection legislation that makes it costly for employers to lay off workers. The effects of such legislation are theoretically and empirically ambiguous: The restricted ability of firms to lay off workers may mitigate an increase of unemployment in a recession. However, firms may be reluctant to hire workers and create employment in the first place. Temporary jobs are usually not covered by employment protection and are therefore very sensitive to economic downturns. 18 / 45

19 Adjustment Costs for Workers Most workers are primarily looking for jobs in a particular city, occupation, and industry. If labor market frictions create unemployment in that city-occupation-industry cell, then the persistence of unemployment will depend on workers willingness and ability to seek jobs in other cities, occupations and industries. The terms skill mismatch and spatial mismatch refer to situations where the skills of job seekers don t correspond to the skills that employers are looking for, and where job seekers do not reside in the regions where they could more easily find jobs. 19 / 45

20 Outline Unemployment Introduction Perfect Competition Labor Market Frictions Minimum wages Introduction Theory Empirical Evidence 20 / 45

21 Minimum Wages Many countries impose a minimum wage level. 21 / 45

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24 Minimum Wages, U.S / 45

25 Minimum Wages, U.S / 45

26 Minimum Wages Many countries impose a minimum wage level. The traditional view among economists is that such wage floors are undesirable because they decrease labor demand and create unemployment. This view is grounded in the model of perfect competition that we saw earlier: It predicts that higher wages always translate to lower employment. 26 / 45

27 An Assessment of Perfect Competition Most theoretical models of the economy assume that labor markets are perfectly competitive: Neither employers nor employees have the power to set wages. The model of perfect competition has several attractive properties: simple and traceable useful to study basic market dynamics The advantages trade off against major limitations: difficulty to explain wage discrimination or wage negotiations difficulty to explain wage differentials between firms extreme prediction that a firm will loose all its employees when it lowers wages by one cent 27 / 45

28 Monopsony An growing literature, including an interesting book by Alan Manning (2003), argues that 1. labor markets should be thought of as monopsonistic, with employers exerting market power over employees 2. the assumption of perfect competition can be a problematic simplification that leads to erroneous predictions 28 / 45

29 Monopsony The monopsonistic view of labor markets suggests that very often there is monopsonistic competition between firms Monopsonistic firms can set wages. Sources of monopsony power: 1. ignorance of workers about job opportunities 2. individual heterogeneity in job-specific skills or preferences over jobs 3. mobility costs of workers 29 / 45

30 A Simple Model of Monopsony A monopsonistic firm faces a labor supply L S (w) which is an increasing function of the wage w that is chosen by the firm. For simplicity, we will assume that the firm uses only labor as a production input, so that the production function is Y = F (L). The monopsonist sets the wage w to maximize profit: Max w Π = F (L S (w)) wl S (w) (1) The first order condition to this problem is: F L (L) LS w LS (w) w LS w = 0 (2) 30 / 45

31 A Simple Model of Monopsony The FOC solves to: w = F L (L) η LS w 1 + η LS w < F L (L) (3) where η LS w is the wage elasticity of labor supply. Market power allows the firm to set a wage below the marginal product of labor, F L (L). Wages will be particularly low if the labor supply elasticity is small. In this case, the firm can still attract many workers even if it pays a low wage. 31 / 45

32 Relation of Monopsony to Perfect Competition When the wage elasticity of labor supply is infinity: w F L (L) However, finite elasticity of labor supply implies that w < F L (L). The monopsonist will offer a lower wage than a firm under perfect competition, and employment will therefore be lower. 32 / 45

33 Employment Effects under Monopsony Minimum wages are undesirable in the case of monopsony because they constrain the firm s ability to obtain profits by setting wages below the marginal product of workers. The monopsonistic firm becomes a price taker up to an employment level of L S (w min ) because it has to pay the minimum wage w min for any quantity of labor up to L S (w min ). 33 / 45

34 Employment Effects under Monopsony The minimum wage therefore changes the monopsonist s marginal cost of labor: Without the minimum wage, a monopsonistic firm always needs to increase the wage if it wants to hire additional workers. The higher wage has to be paid to all workers in the firm and the cost of hiring an additional worker is thus equal to that worker s wage plus a wage increase for all other workers. With the minimum wage, the firm no longer needs to increase the wage in order to hire more workers (up to an employment of L S (w min )). The only cost of an additional worker is therefore that worker s wage. It can be optimal for the monopsonist to hire more workers after the introduction of a minimum wage because the minimum wage decreases the marginal cost of labor. 34 / 45

35 Empirical Estimates of Minimum Wage Effects Until the 1990s, most empirical research suggested that minimum wages depressed employment. However, a highly infuential paper by Card and Krueger (AER 1994) found positive employment effects. The employment impacts of minimum wages have been a controversial topic among labor economists ever since. 35 / 45

36 NJ Minumum Wage Rise (Card and Krueger, 1994) New Jersey s minimum wage increased from $4.25 to $5.05 per hour on 1 April 1992 Card and Krueger study the impact on employment, wages and prices at fast-food restaurants using a dif-in-dif approach Data collected on March and Nov/Dec 1992 Control group 1: Stores in eastern Pennsylvania Control group 2: High-wage (above $5) stores in NJ Strenghts of the paper the rise occured during a recession (decided two years earlier, last-minute action to reduce the rise failed) New Jersey and Pennsylvania closely linked (restaurants in eastern Pennsylvania arguably in the same market) low attrition in data collection 36 / 45

37 Treatment and Control Locations 37 / 45

38 Results of the CK Study Wages increased by 10% in NJ, remained constant PA... but employment rose in NJ and decreased in PA 38 / 45

39 Distribution of wage rates, before and after Wage Range Wage Range VOL. 84 NO. 4 CARD AND KRUEGER: MINIMUM WAGE AND EMPLOYMENT February 1992 November November Wage Range November Wage Range New Jersey Pennsylvania FIGURE1. DISTRIBUTION OF STARTING WAGE RATES Wage Range New Jersey Pennsylvania FIGURE1. DISTRIBUTION OF STARTING WAGE RATES 39 / 45

40 Results of the CK Study Variable 1. FTE employment before, all available observations 2. FTE employment after, all available observations 3. Change in mean FTE employment 4. Change in mean FTE employment, balanced sample of storesc 5. Change in mean FTE employment, setting FTE at temporarily closed stores to Od THE AMERICAN ECONOMIC REVlEW SEPTEMBER 1994 TABLE 3-AVERAGE EMPLOYMENT PER STORE BEFORE AND I ~ E THE R RISE IN NEW JERSEY MINIMUM WAGE PA (i) Stores by state Stores in New Jersey a Differences within NJ~ Difference, Wage = Wage = Wage r Lowhighigh Midrange- NJ NJ-PA $4.25 $4.26-$4.99 $5.00 (ii) (iii) (iv) (v) (vi) (vii) (viii) Notes: Standard errors are shown in parentheses. The sample consists of all stores with available data on employment. FTE (full-time-equivalent) employment counts each part-time worker as half a full-time worker. Employment at six closed stores is set to zero. Employment at four temporarily closed stores is treated as missing. 40 / 45

41 Results of the CK Study Wages increased by 10% in NJ, remained constant PA... but employment rose in NJ and decreased in PA The dif-in-dif estimate is statistically significant if anything, the rise of minimum wage increased employment Result robust to alternative specifications and on using an alternative control group Entry/exit: no indication of an impact Impact on prices: mixed results 41 / 45

42 Reactions to the CK Study (Nobel laurate) Angus Deaton: The reception accorded to Princeton faculty by their colleagues in other institutions is what might be expected by the friends and defenders of child-molesters (Nobel laurate) James Buchanan in the Wall Street Journal: no self-respecting economist would claim that increases in the minimum wage increase employment. Such a claim, if seriously advanced, becomes equivalent to a denial that there is even minimum scientific content in economics, and that, in consequence, economists can do nothing but write as advocates for ideological interests. Fortunately, only a handful of economists are willing to throw over the teaching of two centuries; we have not yet become a bevy of camp-following whores See Angus Deaton s Letters from America for more: 42 / 45

43 Reactions to the CK Study Neumark and Wascher (2000, AER) CK data has a lot of measurement errors data provided by Employment Policies Institute reveal that the minimum wage rise did decrease employment 43 / 45

44 Reactions to the CK Study Neumark and Wascher (2000, AER) CK data has a lot of measurement errors data provided by Employment Policies Institute reveal that the minimum wage rise did decrease employment Card and Krueger (2000, AER) administrative data from Bureau of Labor Statistics confirm the key findings of the 1994 paper calls into question the representativeness of the sample assembled by Berman, Neumark and Wascher See John Schmitt s Cooked to Order for more: 43 / 45

45 Treatment and Control Locations (Card and Krueger, 2000) 1406 THE AMERICAN ECONOMIC REVIEW DECEMBER C14~~ ~ ~ NJ, P;7cute1 A 4cute NJ -,-..*...PA; 7 counties.----pa; 14 counties FIGURE 2. EMPLOYMENT IN NEW JERSEY AND PENNSYLVANIA FAST-FOOD RESTAURANTS, OCTOBER 1991 TO SEPTEMBER 1997 Note: Vertical lines indicate dates of original Card-Krueger survey and the October 1996 federal minimum-wage increase. Source: Authors' calculations based on BLS ES-202 data. sections of fast-food restaurants for the period ment growth in Pennsylvania exceeded that in 44 / 45

46 ING METHODS OF ESTIMATING MINIMUM-WAGE EFFECTS 241, the estimates in relationship bedegrees of freee square root of quite far from 1, The inclusion of riables does not fficient or reduce d similar models s. First, we elimilished after e we continue to n between the t freedom. Second, on analysis omitmber 7 (see Fig. inated from the tween the t ratio eedom becomes rmed the analysis s that use a logais subsample we e relationship be- Standard Emor of Estimate o ~ ~ t ~lasticity ~ a l - 2 X Standard Error correlation across studies between the coefficient Source: estimates Card and and their Krueger associated (AERstan- 1995) Figure: dard errors. One difficulty with examining the relationship between coefficients and standard 45 / 45