Michael U. Krause

The (Ir)relevance of Real Wage Rigidity in the New Keynesian Model with Search Frictions

We explore the role of real wage dynamics in a New Keynesian business cycle model with search and matching frictions in the labor market. Both job creation and destruction are endogenous. We show that the model generates counterfactual inflation and labor market dynamics. In particular, it fails to generate a Beveridge curve: vacancies and unemployment are positively correlated. Introducing real wage rigidity leads to a negative correlation, and increases the magnitude of labor market flows to more realistic values. However, inflation dynamics are only weakly affected by real wage rigidity. This is because of the presence of labor market frictions, which generate long-run employment relationships. The measure of real marginal cost that is relevant for inflation dynamics via the Phillips curve contains a dynamic component that does not necessarily move with real wages.

Inflation Dynamics with Search Frictions: A Structural Econometric Analysis

The New Keynesian Phillips curve explains inflation dynamics as being driven by current and expected future real marginal costs. In competitive labor markets, the labor share can serve as a proxy for the latter. In this paper, we study the role of real marginal cost components implied by search frictions in the labor market. We construct a measure of real marginal costs by using newly available labor market data on worker finding rates. Over the business cycle, the measure is highly correlated with the labor share. Estimates of the Phillips curve using generalized method of moments reveal that the marginal cost measure remains significant, and that inflation dynamics are mainly driven by the forward-looking component. Bayesian estimation of the full New Keynesian model with search frictions helps us disentangle which shocks are driving the economy to generate the observed unit labor cost dynamics. We find that mark-up shocks are the dominant force in labor market fluctuations.

Modeling Labor Markets in Macroeconomics: Search and Matching

We present and discuss the simple search and matching model of the labor market against the background of developments in modern macroeconomics. We derive a simple representation of the model in a general equilibrium context and how the model can be used to analyze various policy issues in labor markets and monetary policy.