In this paper I present an econometric investigation of the implications of the intertemporal substitution hypothesis for aggregate employrnent in the United States. The tests are based on a version of the hypothesis with time-separable preferences. On the basis of the evidence produced, the hypothesis is quite successful in explaining fluctuations in aggregate employment, although almost totally unsuccessful in accounting for fluctuations in employee hours. These findings suggest that the hypothesis might have an important role to play in macroeconomic modeling, although they contradict attempts to account for aggregate fluctuations solely in terrns of continuous competitive equilibrium in labor markets.
Journal of Political Economy
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On the basis of the results of this paper, theories that rest on intertemporal substitution and continuous market clearing do not appear to be supported by the evidence. The features of the estimates for the total number of employees do however suggest that maybe an extension of the theory to account for serial persistence, or the possibility of rationing in the labour market, might result in a role for intertemporal substitution in macroeconomic modelling. The structure of the paper is as follows. In section I, I present the theoretical model. Time series estimates and tests are in section II.In section III, an attempt is made to compare the estimates to alternative labour market models. I argue that, in principle, intertemporal substitution models predict similar correlations between employment and wage and price inflation as for example Sargan (1964)-type wage equations, and that it is not too surprising that they fit reasonably well to UK time series. There is an observational equivalence problem, which, nevertheless, should be possible to resolve. This and other conclusions are summed up in the final section.
The Economic Journal
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This paper extends the basic, multimarket model of Lucas (1972), to explicitly consider the labour market. It builds on an important distinction between the product wage, entering the decision function of firms, and the real wage, entering the decision function of workers. Because of the unobservability of the price level workers make forecasting errors in trying to calculate their real wage, despite having rational expectations. This gives rise to a Phillips curve. The major new result of the paper is the demonstration that wages are less variable than prices. which offers an equilibrium interpretation of wage stickiness.
Journal of Monetary Economics
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