What Explains the Effects of Technology Shocks on Labor Market Dynamics?

Abstract

The sticky-price theory has proved fairly successful in explaining the dynamic effects of technology shocks on employment, at least under weak accommodation of monetary policy to the shocks. Yet, when we extend the analysis to a broader set of labor market variables, including employment as well as real wages and nominal wages, the sticky-price theory cannot claim victory: it fails to account for the observed wage dynamics following technology shocks unless one is willing to assume implausibly large degrees of monetary policy accommodation and large values of labor supply elasticity. We show that a model that allows for a role of nominal wage rigidity, coupled with a modest degree of price stickiness as some recent research suggests, provides a better account for the macroeconomic effects of technology shocks on the labor market.

Keywords: Technology shock, employment, real wage, sticky price, business cycle

JEL Classification: E31, E32