By Federico de Pace and Renato Faccini
We extend the standard textbook search and matching model by introducing deep habits in consumption. The cyclical fluctuations of vacancies and unemployment in our model can replicate those observed in the US data, with labour market tightness being 20 times more volatile than consumption. Vacancies display a hump-shaped response to technology shocks as well as autocorrelation coefficients that are in line with the empirical evidence. Our model preserves the assumption of fully flexible wages for the new hires and the calibration is consistent with the estimated elasticity of unemployment to unemployment benefits. The numerical simulations generate an artificial Beveridge curve which is in line with the data.
This paper is a new attempt to resolve the Shimer puzzle. To increase the volatility of labor market variables, the model assumes deep habits: consumers develop very persistent consumption in particular goods, which firms encourage by supplying more goods. They can achieve this by hiring more workers when such opportunities arise.