Imperfect Information, Lagged Labor Adjustment and the Great Moderation

Tinbergen Institute Discussion Paper 09-063/2

36 Pages Posted: 17 Jul 2009 Last revised: 28 Jun 2012

See all articles by Tim Willems

Tim Willems

University of Oxford - Nuffield College of Medicine

Sweder van Wijnbergen

Universiteit van Amsterdam; Tinbergen Institute; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Date Written: July 17, 2009

Abstract

This paper first documents the increase in the time lag with which labor input reacts to the economy's driving structural shocks ("the labor adjustment lag") that is visible in US data since the mid-1980s. We show that lagged labor adjustment is optimal in a setting where there is uncertainty about the persistence of shocks and where labor input is costly to adjust. We then present evidence that both the nature of shocks hitting the economy as well as labor adjustment costs have changed since the 1980s in a direction that could explain the increase in the lag. Finally, we argue that the increase in the labor adjustment lag has the potential to explain some macroeconomic puzzles that characterize post-1984 US data, such as the reduced procyclicality of labor productivity and the reduction in output volatility (known as the Great Moderation).

Keywords: imperfect information, labor adjustment, jobless growth, option value of waiting, Great Moderation

JEL Classification: E24, E32, J23, J24

Suggested Citation

Willems, Tim and van Wijnbergen, Sweder, Imperfect Information, Lagged Labor Adjustment and the Great Moderation (July 17, 2009). Tinbergen Institute Discussion Paper 09-063/2. Available at SSRN: https://ssrn.com/abstract=1435308 or http://dx.doi.org/10.2139/ssrn.1435308

Tim Willems (Contact Author)

University of Oxford - Nuffield College of Medicine ( email )

New Road
Oxford, OX1 1NF
United Kingdom

Sweder Van Wijnbergen

Universiteit van Amsterdam ( email )

Roetersstraat 11
Amsterdam, 1018 WB
Netherlands
+31 20 525 4011 / 4203 (Phone)
+31-35-624 91 82 (Fax)

Tinbergen Institute

Burg. Oudlaan 50
Rotterdam, 3062 PA
Netherlands

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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