Search

This paper studies the cyclical fluctuations in unemployment and vacancies in a search and matching model in which workers lose skills during periods of unemployment. Firms' profits fluctuate more because aggregate productivity affects the economy's human capital level. Moreover, wages for workers with lower levels of human capital are closer to the value of non-market time, leading to more rigid wages. Fluctuations in the vacancy-unemployment ratio are larger than is the case in the baseline search and matching model. For mid-range values of non-market time the improvement is substantial, and the model accounts for most observed labor market fluctuations.

Recent evidence shows that baseline search models struggle to match the observed levels of wage dispersion. This paper studies a random matching search model with human capital losses during unemployment. Wage dispersion increases, as workers accept lower wages to avoid long unemployment spells. The model explains between a third and half of the observed residual wage dispersion. When adding on-the-job search, the model accounts for all of the residual wage dispersion and generates substantial dispersion even for high values of non-market time. The paper thus addresses the trade-off between explaining frictional wage dispersion and the cyclical behavior of unemployment.