Sorting and the Output Loss due to Search Frictions

By Pieter Gautier and Coen Teulings

We analyze a general search model with on-the-job search and sorting of heterogeneous workers into heterogeneous jobs. This model yields a simple relationship between (i) the unemployment rate, (ii) the value of non-market time, and (iii) the max-mean wage differential. The latter measure of wage dispersion is more robust than measures based on the reservation wage, due to the long left tail of the wage distribution. We estimate this wage differential using data on match quality and allow for measurement error. The estimated wage dispersion for the US is consistent with an unemployment rate of 4-6%. We find that without search frictions, output would be between 7.5% and 18.5% higher, depending on whether or not firms can ex ante commit to wage payments.

There are plenty of papers evaluating the cost of frictions, and as far as I know, this is the first one that does this convincingly for the labor search friction. It is convincing because the model can match the unemployment rate and the wage dispersion. But is it interesting to evaluate this cost? It is very unlikely that we will ever be able to get rid of such frictions unless every worker is willing to reveal everything to Big Brother.


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