Demographic Change and the Great Moderation in an Overlapping Generations Model with Matching Frictions
51 Pages Posted: 19 Jun 2014
Date Written: October 1, 2013
The fraction of the labor force under the age of 35, or youth share, has been correlated with cyclical GDP volatility over the past several decades. The youth share and business cycle fluctuations were high during the 1970’s. Then, as the population aged, output volatility declined. I develop an overlapping generations model featuring search frictions and productivity shocks, in which the age distribution affects cyclical volatility through two channels. First, employment for younger workers fluctuates more, creating a simple composition effect. Second, inexperienced workers produce less, so firms decide how many jobs to create based on the age distribution. Young job searchers do not necessarily induce firms to post new vacancies. Both this endogenous response by firms and the composition effect increase aggregate volatility when the population has a high youth share. The model can replicate a large portion of the moderation over the past two decades, suggesting an important role for demographics in determining the magnitude of output volatility.
Keywords: Business Cycles, Demographics, Overlapping Generations, Job Search
JEL Classification: E32, J10
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