Recent research seeking to explain the strong cyclicality of US unemployment emphasizes the role of wage rigidity. This paper proposes a micro-founded model of wage rigidity – an equilibrium business cycle model of job search, where risk neutral firms post optimal long-term contracts to attract risk averse workers. Equilibrium contracts feature wage smoothing, limited by the inability of parties to commit to contracts. The model is consistent with aggregate wage data if neither worker nor firm can commit, producing too rigid wages otherwise. Wage rigidity does not lead to a substantial increase in the cyclical volatility of unemployment.

Abstract: The purpose of this paper is to explore the microfoundations of the observed asymmetric movement in aggregate unemployment rates. Using U.S. data, we find that individual labor force participation responds asymmetrically to changes in local labor market conditions, consistent with the pattern of movements in the aggregate unemployment rate. Differences in the asymmetry and sensitivity of labor force participation decisions are found across gender, age, and education groups, and these differences are used to anticipate changes in the aggregate movements as population characteristics change over time. JEL classification: J21, J22, E24, E32 Key words: asymmetric labor force participation decision, unemployment rate, business cycle, gender, education, age The authors thank M. Laurel Graefe and Menbere Shiferaw for valuable research assistance. The views expressed here are the authors ’ and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors ’ responsibility.

The views expressed in the paper do not necessary reflect those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. The authors would like to thank Mary Daly, Joshua Pinkston, and Madeline Zavodny for helpful comments and suggestions. The paper has benefited from research assistance from Menbere Shiferaw. The Role of Firm Dynamics in Wage Determination This paper makes use of a panel of matched employer-employee data for Georgia to investigate the role of heterogeneity across businesses in determining workers ' wages. Consistent with previous research, differences in individual human capital accounts for the bulk of the explained earnings variation. But the results also suggest that characteristics such as firm size, changes in firm size, and firm life cycle status play a significant role in wage determination. The results show that workers at newly established firms are paid a large wage premium relative to other workers. This is interpreted as an entrepreneurial risk premium. These workers tend to have much more experience than new hires in general. Also, the wage premium for new firms is larger than the premium associated with established expanding firms. In contrast, workers at firms that are in the process of shutting down (within a year) receive a small wage penalty relative to other workers. Moreover, this penalty is smaller than the penalty associated with a non-dying firm that is reducing employment. For particular sub-groups of workers, the firm dynamic effects are strongest among newly hired workers and weakest among workers with relatively little labor market experience. The earnings advantage that experienced new hires appear to have over other workers is consistent with the well-established positive relationship between changing jobs and wage gains. The Role of Firm Dynamics in Wage Determination I.

This paper addresses the question of how present and past labor market conditions af-fect contemporaneous wages in European labor markets. Based on Beaudry and Dinardos (1991) analysis for the U.S. labor market, this paper uses data from the European Commu-nity Household Panel (ECHP) in order to determine what kind of contractual model spot market, one sided commitment or full commitment best …ts the European labor market evidence. Wages were found to behave according to the one sided commitment contract model when a pooled sample is considered but overall results do not allow for the exclusion of the standard spot labor market. When country level analyses are performed, large het-erogeneity is observed across countries. The strictness of employment protection legislation, the wages bargaining process and the countrys legal origin were used to explain contractual di¤erences observed among economically and geographically comparable countries. I am very grateful to Professor Catarina Reis, my Dissertation Advisor, for the in…nite advice, support and tolerance demonstrated during the elaboration of this thesis. To her I would also like to thank all the knowledge, independence and self-con…dence transmitted during the development of the Research Project. Finantial support