Lecture 4: Time Series and Business Cycle Patterns in Labor Supply

1. Lecture 4: Time Series and Business Cycle Patterns in Labor Supply

2. Part A: Time Series Patterns in Labor Supply,Some Facts

18. Part B: Time Series Patterns in Labor Supply,Some Explanations

19. Trends in The Natural Rate In Unemployment Did labor market conditions improve during the 1980s and 1990s? - Unemployment rates fell substantially Related concept: Do income or substitution effects dominate with respect to labor supply decisions? Must reads: Murphy, Topel, and Juhn “Current Unemployment, Historically Contemplated” (Brookings Papers on Economic Activity, 2002(1)).

20. Real Wages Over Time

24. Juhn, Murphy, Topel: Evolution of Wage Inequality

25. Trends in Unemployment and Nonemployment

26. Breakdown of the Non-Participators: Rising Disability

27. Rising Disability Among the Persistently Unemployed

28. For a detailed analysis of the intersection of the role of disability and • labor supply, see Autor and Duggan’s: • “The Rise in the Disability Rolls and the Decline in Unemployment” • Show that during recessions, the disability margin is much more relevant • now than it was during the 1980s (the benefits to the disabled are now • more comparable to unemployment benefits than before). Autor and Duggan (QJE 2003)

29. Autor and Duggan

30. More Juhn, Murphy, Topel

31. Increase in Long Term Non-employment Duration

32. Increase in Long Term Unemployment Duration

33. Real Wages Over Time

34. Unemployment Trends Throughout the Wage Distribution

35. Nonparticipation Trends Throughout the Wage Distribution

36. Non-employment Trends Throughout the Wage Distribution

37. Income or Substitution Effects?

38. Income of Substitution Effect

39. Decline in unemployment rate may not represent accurately the trends in • labor market performance. • Large decline in participation rates for men. • Non employment has declined much less than unemployment. • The decline is much more pronounced for low wage men. • Does it tell us substitution effects are important? What about changes in • transfers? Conclusions

40. Part C: A Recent Story – Elsby and Shapiro (AER, 2011)Why Does Trend Growth Affect Equilibrium Employment? A New Explanation of an Old Puzzle(Note: I am using some of Elsby’s slides)

41. Existing Explanations • Juhn, Murphy, and Topel (1991, 2002) suggest decline in demand for low-skilled labor in 1970s and 1980s. • Autor & Duggan (2003), Bound & Waidmann (1992) suggest increase in generosity of disability insurance accounts for declines in employment rates among older men (45+).

42. Our Contribution • We emphasize the role of wage growth in reducing work incentives through 2 channels: • Reductions in the returns to experience among low-skilled workers; and • Reductions in the rate of aggregate wage growth that accompanied the productivity slowdown.

43. Preview of Findings Given observed trends in wage growth we find that the model can account for: • Most of the long run rise in nonemployment among high school dropouts. • One half of the rise in economy-wide nonemployment. • The observed age structure of these effects.

44. The Basic Idea Consider the following simple problem: • Infinitely lived worker • Once-and-for-all decision at start of working life between: • Working forever; and • Not working forever. • What is the optimal labor supply policy?

45. The Decision to Work Work Forever Not Work Forever Do not accumulate x Payoff: • Accumulate experience, x • Payoff: • Present value: • Present value:

46. The Reservation Wage It follows that the worker will choose to work if: where:

47. Steady State Employment Imagine an economy populated by workers facing different wages, and different payoffs from nonemployment, Then, aggregate employment is given by: where Ω = c.d.f. of ω/β & ρ = replacement rate (bi/wi).

48. Implications of Simple Model • [Well understood.] Increases in ρ,the replacement rate, reduce L*. • In the long run, it must be that gb= gw. Otherwise, ρ = b(t)/w(0,t) → 0 or ∞, and L*→0 or 1 in the limit. Thus,

49. Implications of Simple Model • Increases in the return to experience gx reduce α and raise aggregate employment. • gx > 0 drives reservation wage below payoff from nonemployment. • Future returns to work  forgo current earnings. • Increases in gx reduce res. wages still further. • Effect will be powerful since r – gw likely small.

50. Implications of Simple Model • Increases in aggregate wage growth gw reduce α and raise aggregate employment, IFF gx > 0. • Increases in gw have a greater impact on PV of earnings for those in work—they compound the return to experience. • N.B. this effect is absent if gx = 0! Relates to Blanchard’s neutrality critique: when gx = 0, gw is neutral w.r.t. employment.