Deep habits and the cyclical behaviour of equilibrium unemployment and vacancies

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.


2 Responses to Deep habits and the cyclical behaviour of equilibrium unemployment and vacancies

  1. Agent Continuum says:

    Well, it’s good that they can match the aggregate data, I just wish they’d talk more about what kind of observations and microdata would corroborate these preferences. Or is that in one of the references?

  2. Renato Faccini says:

    Thanks for your comment.
    As you say, one reason why we don’t expand on the empirical support for the deep habits assumption is because Ravn et al. (2006) do that in their paper.
    The deep habits assumption is that, for example, if you use to buy smart work suites at “Zegna” you will form habits on that particular brand of clothes, while if you never shop at “Zara”, you won’t form habits on Zara’s products. The empirical literature on consumer behaviour often finds that consumers’ choices over different brands of goods are affected by past brand choices (Chintagunta, Kyriazidou and Perktold Journal of Econometrics, 2001).

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