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Discussion ofLabor Force Participation, Wage Rigidites and

Inflationby Francesco Nucci and Marianna Riggi

Regis Barnichon (CREI and Universitat Pompeu Fabra)

ECB, November 2015

This paper

The labor market in the great recession:

I LFP pro-cyclical in US but counter-cyclical in Euro area

I NK model with search frictions, real wage rigidity, endog. LFP=> more wage rigidity in Euro area can generatecounter-cyclical LFP

I Theoretical point: Search with endog. FP, irrelevance of realwage ridigity for inflation dynamics

This paper


I LFP pro-cyclical in US but counter-cyclical in Euro areaI NK model with search frictions, real wage rigidity, endog. LFP=> more wage rigidity in Euro area can generatecounter-cyclical LFP


This paper


I LFP pro-cyclical in US but counter-cyclical in Euro areaI NK model with search frictions, real wage rigidity, endog. LFP=> more wage rigidity in Euro area can generatecounter-cyclical LFP


Very interesting observation

I Most of recent discussion between US and Euro area labormarkets focused on UR

I Sky-rocketed in Spain and remained highI Decreased in GermanyI Increased in US but mean-reverted (relatively) quickly

I Less discussed factI LFPR decreased dramatically in USI LFPR increased in Euro area (true for all countries)

Very interesting observation

I Most of recent discussion between US and Euro area labormarkets focused on UR

I Sky-rocketed in Spain and remained highI Decreased in GermanyI Increased in US but mean-reverted (relatively) quickly

I Less discussed factI LFPR decreased dramatically in USI LFPR increased in Euro area (true for all countries)

LFPR, US

Perc

ent

1967 1977 1987 1997 200758

59

60

61

62

63

64

65

66

67

68

LFPR

LFPR, Euro countries

Understanding movements in LFPR

LFPR used to be considered pretty acyclical

I What is cycle?I What is trend?I Diffi cult to answer except for demographics/aging of babyboom generation

Controlling for aging, US

ppt o

f LFP

1967 1977 1987 1997 200758

59

60

61

62

63

64

65

66

67

68

LFPLFP, constant demog.

Controlling for aging, Euro area

Women vs Men

I In fact, the difference betw EU and US due to womenI LFPmale decreased for all countriesI LFPfemale increased for all countries except US

LFPR, Men

LFPR, Women

Cycle vs. trend

I US: LFPR has cyclical feature in last recessionI Euro: Not so clear.. could just be women’s LFPR catching upwith men

I Perhaps, the most interesting cyclical question is the US?Why so cyclical now? why not before?

The model

I NK model with search frictions and endogenous participation

I Consider A ↓ shockI 2 effects:

1. Discouraged worker effect: JF ↓ and w ↓ => LFP ↓2. Added-worker effect: with habit persisitence, want to preserveC level, so bring more HH members into LF: LFP ↑

I Without real wage rigidity: LFP ↓I With wage rigidity, 1. is less strong and LFP may ↑

The model

I NK model with search frictions and endogenous participationI Consider A ↓ shock

I 2 effects:



The model

I NK model with search frictions and endogenous participationI Consider A ↓ shockI 2 effects:



The model


1. Discouraged worker effect: JF ↓ and w ↓ => LFP ↓

2. Added-worker effect: with habit persisitence, want to preserveC level, so bring more HH members into LF: LFP ↑


The model




The model



I Without real wage rigidity: LFP ↓

I With wage rigidity, 1. is less strong and LFP may ↑

The model




US vs. Euro area

I More real wage rigidity in Euro areaI In recession:

I LFP ↓ in USI LFP ↑ in Euro area

Supporting evidence?

Are Euro nonparticipants more likely to join the LF in recessions?Are US nonparticipants less likely to join the LF in recessions?

I LFPR suggests so, but...

I "Stocks-based analyses are subject to a stock-flow fallacy"(Eslby, Hobijn, Sahin, JME 2015)

I (Pre-2006) Acyclicality of LFPR was result of offsetting(cyclical) worker flows

I Diffi cult to draw conclusions from cyclicality of LFP



I LFPR suggests so, but...I "Stocks-based analyses are subject to a stock-flow fallacy"

(Eslby, Hobijn, Sahin, JME 2015)















The three labor market states

E U

N

The worker flows

E U

N

E-U

E-N

U-E

U-N

N-UN-E

Transition rates (NU and UN) in GermanyHertweck and Sigrist, 2015

Haza

rd ra

te

1984 1989 1994 1999 2004 20091

1.5

2

2.5

3

3.5x 10

3

N>U

Haza

rd ra

te

1984 1989 1994 1999 2004 20090.01

0.015

0.02

0.025

U>N

Labor force entry rate (NU) in Spain

Germany and Spain:

I Labor force entry rises in recessions (NU ↑)I Labor force attachment rises in recessions (UN ↓)

What about the US?

I Is it the opposite?....

I NO!

Germany and Spain:

I Labor force entry rises in recessions (NU ↑)I Labor force attachment rises in recessions (UN ↓)

What about the US?

I Is it the opposite?....I NO!

Transition rates in USCPS, BLS

UE

1980 1990 2000 2010

2

0

2 EU

1980 1990 2000 2010

2

0

2

EN

1980 1990 2000 2010

2

0

2 UN

1980 1990 2000 2010

2

0

2

NE

1980 1990 2000 2010

2

0

2 NU

1980 1990 2000 2010

2

0

2


UE

1980 1990 2000 2010

2

0

2 EU

1980 1990 2000 2010

2

0

2

EN

1980 1990 2000 2010

2

0

2 UN

1980 1990 2000 2010

2

0

2

NE

1980 1990 2000 2010

2

0

2 NU

1980 1990 2000 2010

2

0

2

Rage

Óvalo

A problem?

During recessions:

I Labor force entry rises(NU ↑ and very high in 2011)

I Labor force exit decreases (UN ↓)I Goes in opposite direction as model implies...

I So, what happened in the US?I Why did LFPR decline? US seems to be the odd-ballI Can use stock-flow model to dig a bit deeper into flowsbehind LFPR mvts

A stock-flow model of the labor market

I Describe labor market with Markov chain

I• EUN

t

= Λt

EUN

t

with {Et ,Ut ,Nt} number of workers in each state, Λt

transition matrix

I λAB the transition rate from A to B

A stock-flow model of the labor market (2)

From flows, can build any stock of interest:

I Unemployment rate

ut =Ut

Et + Ut

I Labor force participation rate

lt =Et + Ut

Et + Ut + Nt

A stock-flow model of the labor market (3)

I From steady-state approximation (Shimer, 2012) get

lt = l({λABt

}), A,B ∈ {E ,U,N}

I Linearize

I Isolate contribution of each flow to movements in LFPR

A stock-flow decomposition of LFPRBarnichon and Figura, NBER-MA 2015

ppt

of L

FP

1976 1981 1986 1991 1996 2001 2006

21

0123

Demographicspp

t of

LFP

1976 1981 1986 1991 1996 2001 2006

0

2

4 Other transitions

ppt

of L

FP

1976 1981 1986 1991 1996 2001 20061.5

1

0.5

0

0.5

1

Transitions out of U

LFPR

A stock-flow decomposition of LFPRBarnichon and Figura, NBER-MA 2015

ppt o

f LFP

1976 1981 1986 1991 1996 2001 2006

21

0123

Demographicspp

t of L

FP

1976 1981 1986 1991 1996 2001 2006

0

2

4 Transitions out of E

ppt o

f LFP

1976 1981 1986 1991 1996 2001 2006

2

0

2

UE UN

LFPR

Effects of UN and UE on LFPR

1. UN ↓ => LFPR ↑

2. UE ↓ => LFPR ↓ because an Unemployed is more likely toleave LF than an Employed

3. UN did not decline as strongly as UE (cyclical)=> UN high relative to UE=> Weaker attachment to LF than "normal"


1. UN ↓ => LFPR ↑




1. UN ↓ => LFPR ↑




UE

1980 1990 2000 2010

2

0

2 EU

1980 1990 2000 2010

2

0

2

EN

1980 1990 2000 2010

2

0

2 UN

1980 1990 2000 2010

2

0

2

NE

1980 1990 2000 2010

2

0

2 NU

1980 1990 2000 2010

2

0

2

Rage

Óvalo

Rage

Óvalo

Bottomline

I LFPRUS more pro-cyclical in 08-09, because more LF exitthan "normal" (ie, given the level of UE)

I Could w be responsible through discouraged worker effect?I Did w fall more than usual in last recession? (ie, less rigid)I A comparison of LFPR (and real wage) cyclicality across time(rather than across countries)

Bottomline


I Could w be responsible through discouraged worker effect?

I Did w fall more than usual in last recession? (ie, less rigid)I A comparison of LFPR (and real wage) cyclicality across time(rather than across countries)

Bottomline


I Could w be responsible through discouraged worker effect?I Did w fall more than usual in last recession? (ie, less rigid)

I A comparison of LFPR (and real wage) cyclicality across time(rather than across countries)

Bottomline


I Could w be responsible through discouraged worker effect?I Did w fall more than usual in last recession? (ie, less rigid)I A comparison of LFPR (and real wage) cyclicality across time(rather than across countries)

US real wage, menElsby, Shin, Solon, JOLE 2014

US real wage, womenElsby, Shin, Solon, JOLE 2014

I US real wage pro-cyclical, but less so in 08-09 recessionI Except for womenI => pro-cyclical LFPRwomen

Comments

More generally, would be nice to explore:

I Cyclicality of LFPRUS across time=> Why the paper’s mechanism did not operate before?

I Behavior of real wage in US and EU

Theoretical point

I Irrelevance of real wage ridigity for inflation dynamics

I Without search frictions

Pt = µwtAt

so

A ↓ => wt ↓=> Pt unchgd if wt flexibleA ↓ => Pt ↑ if wt fixed

Theoretical point

I Irrelevance of real wage ridigity for inflation dynamicsI Without search frictions

Pt = µwtAt

so

A ↓ => wt ↓=> Pt unchgd if wt flexibleA ↓ => Pt ↑ if wt fixed

Theoretical point

I But with search frictions, wage loses some of its allocative role

Pt = µ

[wtAt+ f (θt )

]

I f (θt ) : hiring costI Results similar to Krause and Lubik (2007)I Real marginal cost relevant for Pt is not only real wage butalso cost of hiring a worker

I In Krause and Lubik, this hiring cost can vary because ofendog. separation

I In this paper, the hiring cost can vary because of endog. LFPI In both papers, Pt response is similar with or without wagerigidity, because either wt or θt adjust

I A ↓ with wt fixed => # searchers ↑ => hiring cost ↓ whichcompensates w̄tAt ↑

Other question

Implications of model for behavior of UR?

I In Mortensen-Pissarides model, LFPR has no effect on URbecause firms compensate for increase in #searchers byposting more vacancy

I Something similar here?

Conclusion

I Very interesting questionI Why different cyclicaly of LFPR in US and EuroI New mechanism based on more real wage rigidity in EuroI What about cyclical of LFPRUS over time?