The Consequences of Rigid Wages in Search Models
16 Pages Posted: 8 Mar 2004 Last revised: 19 Sep 2022
Date Written: February 2004
Abstract
The standard theory of equilibrium unemployment, the Mortensen-Pissarides search and matching model, cannot explain the magnitude of the business cycle fluctuations in two of its central elements, unemployment and vacancies. Modifying the model to make the present value of wages unresponsive to current labor market conditions amplifies fluctuations in unemployment and vacancies by an order of magnitude, significantly improving the performance of the model. Despite this, the welfare consequences of such rigid wages is negligible.
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