Econometrica: Sep, 2009, Volume 77, Issue 5

The Unemployment Volatility Puzzle: Is Wage Stickiness the Answer?

https://doi.org/10.3982/ECTA7562
p. 1339-1369

Christopher A. Pissarides

I discuss the failure of the canonical search and matching model to match the cyclical volatility in the job finding rate. I show that job creation in the model is influenced by wages in new matches. I summarize microeconometric evidence and find that wages in new matches are volatile and consistent with the model's key predictions. Therefore, explanations of the unemployment volatility puzzle have to preserve the cyclical volatility of wages. I discuss a modification of the model, based on fixed matching costs, that can increase cyclical unemployment volatility and is consistent with wage flexibility in new matches.