DP4243 Unemployment in the EU: Institutions, Prices and Growth

Author(s): Marika Karanassou, Hector Sala, Dennis J. Snower
Publication Date: February 2004
Keyword(s): chain reaction theory, dynamic contributions, employment, homogeneous dynamic panels, labour force participation, labour market shocks, natural rate, panel unit root tests, unemployment, wage determination
JEL(s): E30, E37, J32, J60, J64
Programme Areas: Labour Economics
Link to this Page: www.cepr.org/active/publications/discussion_papers/dp.php?dpno=4243

This Paper presents a reappraisal of unemployment movements in the European Union. Our analysis is based on the chain reaction theory of unemployment, which focuses on (a) the interaction among labour market adjustment processes, (b) the interplay between these adjustment processes and the dynamic structure of labour market shocks, and (c) the interaction between the adjustment processes and economic growth. We divide the shocks into institutional variables, price variables, and growth drivers. Estimating a system of labour market equations for a panel of EU countries, we derive the dynamic unemployment responses to each shock. Our analysis permits us to distinguish between the short- and long-run effects of the shocks. Different shocks generate different degrees of ‘unemployment persistence’ (responses to temporary shocks) and ‘unemployment responsiveness’ (responses to permanent shocks). We find that the growth drivers play a dominant role in accounting for the main swings in EU unemployment.