DP15043 Worker heterogeneity, selection, and employment dynamics in the face of aggregate demand and pandemic shocks

Author(s): Federico Ravenna, Carl Walsh
Publication Date: July 2020
Keyword(s): COVID-19, Heterogeneity, selection, unemployment, ZLB constraint
JEL(s): E24, E32, E52
Programme Areas: Monetary Economics and Fluctuations
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=15043

In a new Keynesian model with random search in the labor market, endogenous selection among heterogeneous workers amplifies fluctuations in unemployment and results in excess unemployment volatility relative to the efficient allocation. Recessions disproportionately affect low-productivity workers, whose unemployment spells are inefficiently frequent and long. We consider a COVID-recession resulting from a negative demand shock and a surge in exogenous separations. High-productivity workers benefit if separations in a pandemic take the form of temporary layoffs, but this is not true for low-productivity workers. The unemployment consequences are especially severe when nominal interest rates are close to the effective lower bound.