Labor Wedges and Open Economy Puzzles

62 Pages Posted: 24 Dec 2010 Last revised: 21 Jun 2011

See all articles by Loukas Karabarbounis

Loukas Karabarbounis

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Date Written: October 1, 2010

Abstract

A parsimonious model with home production, estimated to match moments of the “labor wedge,” explains prominent puzzles of the international business cycle. If market and home activity are substitutes, then the measured labor wedge increases whenever market consumption and employment decrease. Home production breaks the tight negative link between market consumption and its marginal utility and therefore helps explain the international risk sharing puzzle. In an estimated two-country dynamic general equilibrium model in which the labor wedge is endogenously generated to match its empirical moments, market output and market employment are more correlated than market consumption and investment across countries, relative market consumption is negatively related to the real exchange rate and real net exports are countercyclical. Further, the international risk sharing puzzle becomes easier to explain as the degree of financial completeness increases.

Keywords: Labor Wedge, Home Production, International Business Cycles, Risk Sharing

JEL Classification: E3, F3, F4

Suggested Citation

Karabarbounis, Loukas, Labor Wedges and Open Economy Puzzles (October 1, 2010). Available at SSRN: https://ssrn.com/abstract=1730722 or http://dx.doi.org/10.2139/ssrn.1730722

Loukas Karabarbounis (Contact Author)

University of Chicago - Booth School of Business ( email )

5807 South Woodlawn Avenue
Chicago, IL 60637
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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