Uncertainty and Unemployment Revisited: The Consequences of Financial and Labor Contracting Frictions

69 Pages Posted: 26 May 2022 Last revised: 12 Dec 2023

See all articles by Yajie Wang

Yajie Wang

University of Rochester; University of Missouri at Columbia - Department of Economics

Date Written: December 29, 2022

Abstract

I revisit how uncertainty affects unemployment by building a novel search model consistent with the micro-level layoff responses to uncertainty shocks. Using U.S. Census employer-employee matched data, I find that workers are more likely to be laid off when their firms face elevated uncertainty and financial constraints. This observation is not predicted by the real option channel in standard search models, which suggest layoffs are frozen as irreversible search costs raise the option value of waiting during uncertain times. In response, I construct a search model that can replicate the empirical evidence by incorporating financial and labor contracting frictions, so wage bills act as debt-like commitments, which firms are averse to taking on when uncertainty raises firm default risks. Quantitatively, my model captures the increases in unemployment observed during U.S. past recessions, attributing over 70% of uncertainty’s impact on unemployment to the financial and labor contracting frictions.

Keywords: Search and matching, financial frictions, incomplete labor contracts, uncertainty, volatility, firm heterogeneity, business cycles, labor market policies

JEL Classification: E24, E32, E44, D53, D83, J08

Suggested Citation

Wang, Yajie, Uncertainty and Unemployment Revisited: The Consequences of Financial and Labor Contracting Frictions (December 29, 2022). Available at SSRN: https://ssrn.com/abstract=4110474 or http://dx.doi.org/10.2139/ssrn.4110474

Yajie Wang (Contact Author)

University of Rochester ( email )

300 Crittenden Blvd.
Rochester, NY 14627
United States

HOME PAGE: http://www.yajiewang.info

University of Missouri at Columbia - Department of Economics ( email )

118 Professional Building
Columbia, MO 65211
United States
5853514816 (Phone)

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
107
Abstract Views
547
Rank
459,971
PlumX Metrics