Stabilisation Policy in a New Keynesian Model with Job Search, Skills Erosion and Growth Effects (Preliminary and incomplete)

Transcription

1 Sabilisaion Policy in a New Keynesian Model wih Job Search, Skills Erosion and Growh Effecs Preliminary and incomplee Campbell Leih oana Moldovan Simon Wren-Lewis Universiy of Glasgow Universiy of Glasgow Universiy of Oxford February 15, 2015 Absrac This paper develops a sicky-price New Keynesian model where households engage in job search and accumulae boh physical and human capial. The accumulaion and erosion of human capial differ depending on he ime spen in employmen and unemploymen, wih a lower rae of skills erosion and greaer posiive spillovers for employed versus unemployed workers. Since unemploymen affecs human capial accumulaion i also impacs on endogenous economic growh and hence his is an environmen where he coss of unemploymen are poenially high and may significanly influence he conduc of moneary policy. n he conex of his economy, we explore he naure of opimal moneary policy and he rade-offs i faces in erms of sabilising inflaion and oupu unemploymen. We also analyse he abiliy of opimal linear and non-linear simple policy rules boh o deliver a deerminae equilibrium and o mimic he fully opimal Ramsey policy. Keywords: sabilisaion policy, nominal ineria, endogenous growh, job search, unemploymen, human capial. JEL classificaion:. We wish o hank for commens he seminar paricipans a Universiy of London, Birkbeck. Leih and Wren-Lewis are graeful for financial suppor from he ESRC Award No. RES Address for correspondance: Economics, Universiy of Glasgow, Gilber Sco Building, Glasgow G12 8QQ, U.K. s: campbell.leih@glasgow.ac.uk, ioana.moldovan@glasgow.ac.uk.

2 1 nroducion The unemploymen figures are among he mos widely repored of economic saisics, and he popular debae on economic policy aaches significan weigh o rends in ha daa. Commenaries on ineres rae seing decisions by moneary policy makers also appear o aach significan weigh o developmens in he labour marke see for example, he nflaion Repor of he Bank of England or he Monhly Bullein of he ECB, while full employmen is an explici objecive of he US Fed. However, unil recenly, he benchmark New Keynesian model as exemplified by Woodford 2003, which provides he heoreical underpinning o conemporary moneary policy, assumed a Walrasian labour marke wihou any unemploymen. This inabiliy of he canonical moneary policy model o commen on he significance of labour marke developmens for moneary policy has been parially recified in recen years by inroducing unemploymen dynamics hrough he Morensen-Pissarides 1994 model of job search. However, as we shall see below, while such exensions can help explain labour marke flucuaions over he business cycle, hey do no imply any significan change in moneary policy pracice in ha sabilising price inflaion remains he primary goal of moneary policy. n his paper, we aemp o enrich he New Keynesian model in a way which capures why policy makers and he public more generally, may care abou flucuaions in unemploymen. Specifically, we seek o capure he loss of human capial and, subsequenly, he los growh opporuniies, ha rising unemploymen may be hough o imply. Our paper hen seeks o assess how such poenially imporan coss o unemploymen influence he conduc of opimal moneary policy. The lieraure inegraing job search wih he New Keynesian model iniially focussed on idenifying which modelling elemens were required o accuraely capure labour marke dynamics over he business cycle and, in urn, bes explain empirical descripions of he inflaion process in he conex of boh calibraed and esimaed models. Here debae has ofen focussed on he need o incorporae eiher real wage rigidiy Hall or saggered nominal wage bargaining Gerler and Trigari o overcome he Shimer 2005 puzzle 1 - noable papers in his vein include Sala e al. 2008, Sveen and Weinke 2008, Gali e al While he implicaions of job search for inflaion dynamics is considered in Chrisoffel and Kueser 2008, Chrisoffel e al. 2009, Krause e al. 2008b and Sumakama 2011, where some auhors have sressed he imporance of adoping he righ o manage approach o wage deerminaion over he more commonly used assumpion of effi cien bargaining since he former implies a wage channel, whereby he wage rae feeds direcly ino he price inflaion process, in line wih convenional policy making wisdom and some empirical evidence. More recenly, aenion has urned o exploring he implicaions for opimal moneary policy of inroducing job search and unemploymen ino a sicky price New Keynesian economy. Adoping a linear quadraic approach, Ravenna and Walsh 2009 and Blanchard and Gali 2010 demonsrae ha, provided he seady-sae of he economy is effi cien 2, hen in he face of produciviy shocks moneary policy faces no addiional rade-offs and mimicing he flexible price allocaion by eliminaing inflaion remains op- 1 The puzzle reflecs he fac ha where he job search model can ypically explain wage flucuaions in line wih he daa, hese do no generae suffi cien unemploymen volailiy o mach he daa. Pissarides 2009 argues ha using sicky real or nominal wages o solve he puzzle is no acually consisen wih microeconomic evidence on he wages of newly mached hires. 2 Effi ciency in his conex requires ha a subsidy is applied o eliminae he disorion caused by monopolisic compeiion, and he weigh on he workers surplus in he Nash produc underpinning he wage bargaining following a sucessful mach saisfies he Hosios 1990 condiion. 1

3 imal. A series of papers hen relax he assumpion ha he seady-sae of he economy is effi cien 3, which implies ha policy makers face a rade-off beween sabilising inflaion and unemploymen in he face of echnology shocks, alhough ypically he opimal deviaions from sric inflaion argeing are very small, unless saggered nominal wage bargaining is assumed. However, as Ravenna and Walsh 2011 noe, even his is a resul of he coss of saggered wage adjusmen raher han job search and similar resuls appear in models wihou unemploymen, bu wih Calvo conracs in wages as well as prices see Erceg e al Par of he lack of moneary policy response o flucuaions in unemploymen can be explained by he analysis in Ravenna and Walsh 2011, where hey argue ha moneary policy is simply a poor choice of insrumen in offseing congesion exernaliies in he labour marke a he same ime as minimising he coss of nominal ineria, and ha he welfare coss of unemploymen are acually reasonably high. However, i remains he case ha he coss of price dispersion in such models dominae he labour marke exernaliies. n his paper, we aim o inroduce several addiional feaures which accord wih our inuiion as o why unemploymen may maer a an aggregae level beyond he coss of unemploymen experienced by hose individuals unlucky enough o suffer from i. Specifically, our model conains households who accumulae boh human and physical capial. Human capial accumulaion occurs parly exogenously, hrough a process of compulsory schooling, bu also endogenously in ha household members who work also underake on-he-job raining. Exernaliies associaed wih on-he-job raining imply ha our model conains endogenous growh effecs and ha boh firms and households will fail o accoun for hese effecs when ineracing in he labour marke. Moreover, workers who ener he sae of unemploymen will no underake raining and will lose heir skills a a faser rae han employed workers, hereby capuring one of he mos popular explanaions of he coss of unemploymen. n order o model his ongoing loss of skills hrough unemploymen racably, we allow for job sharing wihin households such ha all household members share he same level of human capial. This avoids he need o assume ha workers regain heir skill levels wihin one period of regaining employmen, as in Laureys 2011 and Rannenberg 2010, or following paymen of a fixed reraining cos, as in Eseban-Preel and Faraglia can also help explain feaures such as he near-hysereic behaviour of he European labour marke where, since human capial mus be slowly rebuil following a spell of unemploymen, firms face reduced incenives o pos vacancies. The empirical evidence suggess ha US and European labour markes conain significan differences - specifically, Europe suffers from a lower average pos-war rae of growh and higher levels of unemploymen, he probabiliy of finding a job for an unemployed worker is, ce par, lower in Europe, unemploymen benefis are significanly higher compared wih he US and persisence in unemploymen following shocks is hough o be higher in European economies. Given hese differences, we carefully calibrae our economies o capure key feaures of he European and US economies. We hen explore he naure of opimal moneary policy in our sicky price New Keynesian economy augmened wih endogenous growh, unemploymen, physical capial accumulaion, job search and skills loss. Given he wealh of disorions and fricions in such a seup, we follow Ravenna and Walsh 2011 in uilising a raf of fiscal insrumens as a means of 3 This is achieved eiher by employing he linear-quadraic echniques of Benigno and Woodford 2006 see, for example, Raissi 2011 and Tang 2006, or by employing higher order soluion mehods o solve he Ramsey problem in he presence of a disored seady-sae see, for example, Thomas 2008, Faia 2008, 2009, Ravenna and Walsh 2011 and Sumakama

4 quanifying he impac of each ineffi ciency in isolaion and idenifying where he key policy rade-offs lie. We also explore he abiliy of opimal linear and non-linear simple moneary policy rules boh o deliver a deerminae equilibrium and o mimic he fully opimal Ramsey policy. 2 The Model The economy consiss of households, inermediae goods and final goods producing firms, and he governmen. also feaures a se of disorions and fricions ha creae rade-offs for opimal moneary policy acing alone o sabilise he economy in response o exogenous shocks. To beer highligh he role of hese disorions, we assume he governmen can implemen a se of axes and subsidies, argeing specific ineffi ciencies in he economy more deails on he governmen policy seing are provided below. 2.1 Problem of he represenaive household Households are large and conain a coninuum of members of size 1. We assume ha he household s decision making is cenralised such ha he household akes decisions on behalf of is individual members. For reasons of racabiliy, we furher assume ha he household operaes a job-sharing scheme wihin he family, such ha any unemploymen is shared equally across household members. Such an assumpion ensures ha, despie he fac ha we shall allow human capial accumulaion and depreciaion o differ during spells of employmen and unemploymen, each household member sill enjoys he same level of human capial, hus negaing he need o rack he disribuion of human capial across household members. Furher assuming ha he family smoohes consumpion and effor levels across household members, by consolidaing he household budge consrain and implemening job sharing arrangemens, we can consider a represenaive uiliy funcion, [ E 0 β 1 l 1+ϕ ln C ϕ S ] N ψ 1 + ϕ =0 The represenaive family member spends S of her ime in compulsory educaion and 1 S of her ime in he labour marke. Of her ime in he labour marke, N is in employmen and U in unemploymen. Equivalenly, she spends 1 S N h of her ime working, 1 S N e N accumulaing human capial while in employmen, and Se S accumulaing or mainaining human capial while in compulsory educaion, wih he remaining ime spen as leisure. This implies he following relaionships: 1 = l + 1 S N h + e N + Se S = U + N. Finally, ψ capures a uiliy or saus effec relaed o being employed. The family s budge consrain, which has been consolidaed across family members, is given by P C + P + P φ K + E {Q,+1 D +1 } K { 1 τ = W h H 1 S N + P ϖ 1 S U + D + 1 τ P K } K τ P Π κ V + P Ξ M P T 3

5 The household receives afer-ax wage income when employed, 1 τ W h H 1 S N, and unemploymen benefis when unemployed, P ϖ 1 S U, where H is he curren level of human capial, τ he income ax rae, and ϖ he real value of unemploymen benefis. 1 τ P Π κ V are he household s share of he pos-ax profis of he inermediae and final goods firms afer paying he ax deducible vacancy posing coss required o faciliae a job mach, while P Ξ M represen he share of subsidies provided by he governmen o newly creaed firms see Secion... below. T are lump-sum axes paid o he governmen. The family invess in sae coningen asses D +1, where he porfolio includes governmen deb, B +1. The household also invess in physical capial K +1 and pays φ K K in coss of convering invesmen ino insalled capial. The capial is rened o inermediae goods producing firms a he renal price P K and he corresponding revenues are axed a rae τ. Wih a depreciaion rae of δ K, he family s capial sock evolves according o K +1 = 1 δ K K + The family also spends ime invesing in human capial, H +1 = [ 1 1 S N δ N Sδ N 1 S U δ U] H + 1 S N A N e N H θn H 1 θn + S A S e S H θs H 1 θs The rae of depreciaion of human capial depends on he proporion of ime spen in unemploymen versus employmen, wih δ U > δ N reflecing he evidence ha he unemployed experience a higher erosion of skills relaive o he employed e.g... CTE EVDENCE. Family members also accumulae human capial when employed, as hey can conver effor e N ino human capial according o he funcion A N e N H θn H 1 θn, where he abiliy o accumulae capial depends on effor iself, on he exising level of human capial H, and on a consan produciviy erm, A N. 4 There is also an exernaliy in ha human capial accumulaion is easier if he average level of human capial in ohers, H, is greaer. f θ N = 1, ha exernaliy is removed. A similar accumulaion of human capial occurs when in schooling, bu here is no human capial accumulaion when unemployed. We rea he exen of compulsory schooling S and he effor employed in gaining skills e N and e S as being exogenous and consan inroducing compulsory schooling enables us o mach he growh daa wihou assuming ha all human capial accumulaion akes place hrough on-he-job raining, while a consan effor is more in line wih he evidence on cyclical variaions in job-relaed raining programs [Evidence...] 5 Given his specificaion, human capial accumulaion and economic growh are ighly linked o employmen dynamics and he degree of skills erosion. The household s uiliy maximising choices are given by he Euler equaion, uc,+1 1 = βe π 1 +1 R u c, 4 Alhough his produciviy erm may depend on governmen invesmen in raining for employed workers, i is unlikely ha moneary policy have a similar effec. We hence assume i consan across he business cycle. 5 When allowing for endogenous effor e N, he household aemps o exploi his channel o a very high degree, no consisen wih observaions on he cyclical variaion in on-he-job raining, and leads o unsable pahs under an opimal moneary seing. We consider he policy implicaions of endogenous labour force paricipaion and schooling in Leih e al. 2015b. 4

6 he firs order condiion for physical capial, K +1, u c, 1 + φ = βe u c,+1 1 τ +1 p K +1 φ +1 K + K +1 + φ +1 K K φ +1 K +1 1 δ K 2 and ha for human capial, H +1, λ 3 = βe λ 1+1 [ 1 τ +1 w +1 h +1 1 S N+1 ] + + βe λ S N +1 δ N Sδ N 1 S U +1 δ U + 1 S N +1 θ N A N e N H +1 θn H 1 θ N +1 + S H +1 θ S A S e S H +1 θs H 1 θ S +1 H +1 where R = E Q,+1 1 is he gross nominal ineres rae on one-period riskless bonds, π = P /P 1 is he gross rae of inflaion, p K = P K P he real renal price of capial, and λ 3 represens he shadow value of human capial. 6 n he absence of adjusmen coss, he firs order condiion for physical capial 2 becomes he usual Euler equaion for capial, [ u c, = βe u c,+1 1 τ +1 p K δ K] while he valuaion of human capial in equaion 3, aken from he poin of view of individual households, will help us highligh exernaliies arising from he labour marke. 2.2 nermediae Goods Firms There are wo producion secors: he inermediae goods secor and he final goods secor. The inermediae goods secor consiss of a coninuum of firms, indexed by i and of measure 1 SN, which employ labour and hire capial o produce differeniaed inermediae goods in imperfecly compeiive markes. Final goods firms also a coninuum bu of measure 1 hen use a CES aggregae of he inermediae goods o obain a homogenous good, which hey subsequenly conver ino differeniaed goods and sell a profi maximising prices. Firms in he final goods secor are also subjec o nominal ineria in he form of Calvo 1983-ype conracs. Denoing wih Y,i he oupu of inermediae firm i, he overall CES aggregae of inermediae goods across all final goods producers is given by Y = wih an associaed price index P = demand curve Y,i = [ 1 SN 0 Y,i [ 1 SN 0 ɛ 1 ɛ P,i di 1 ɛ ] ɛ ɛ 1 ] 1 1 ɛ di 3 and a corresponding ɛ P,i Y P, for each inermediae good i. The CES specificaion includes a love of variey effec, as in Benassy 2006, which is associaed wih an exernaliy arising from he fac ha new inermediae goods firms and hence new varieies 6 See Appendix A for deails of he derivaions. 5

7 are creaed hrough individual maches in he labour marke ha ignore he aggregae effec on oupu. n a symmeric equilibrium, we have Y = [ 1 S ] ν+1 N Y,i where ν = 1/ ɛ 1 capures he love of variey. The producion funcion for inermediae goods is given by Y,i = A K i α h H 1 α 4 where A is a saionary produciviy erm, common across firms, and following he AR1 process ln A = 1 ρ A ln A + ρ A ln A 1 + ε A, wih ε A iid 0, σ A. This implies ha he profis of inermediae goods firm i are, in real erms, Π,i = 1 τ x A K i α h H 1 α w h H 1 υ p K K i = 1 τ [ ] ν P 1 S N A P K 1 S N α h H 1 α w h H 1 υ p K where x P,i P is he real price of inermediae good i. The second line expresses individual profis in erms of aggregae variables, where we have used he fac ha, by symmery, 1 SN 0 Kdi i = [ 1 S ] N K i = K and P = [ 1 S ] ν N P,i, implying x = [ 1 S ] ν N p, wih p P P as he relaive price of he composie of inermediae goods. Finally, τ is a ax on inermediae goods firms revenues and υ a subsidy o he coss of hiring capial. While hours are deermined alongside wages in he bargaining process see below, he firm s opimal choice of capial, which maximises profis subjec o he echnology and demand consrains, is given by: 1 τ ɛ x mpk = ɛ 1 υ p K 1 where mpk = α Y,i is he marginal produc of capial. This is he usual condiion under K i imperfec compeiion, where he firm hires capial up o he poin where is afer-ax marginal value produc is a a markup over he subsidised cos. Using his relaionship, ogeher wih he opimal choice of hours from equaion 10 and he producion funcion 4, yields he following implici pricing condiion: 1 τ x = α α 1 α α 1 ɛ A 1 ɛ 1 1 υ p K 2.3 The Labour Marke α mrs /H 1 α. 1 τ Given he job sharing arrangemens in place wihin he represenaive family, i is no he case ha an individual is being mached o a job. nsead he family are rying o find a new job o divide amongs is members. We follow Chrisoffel e al in formulaing he maching side of he economy. The maching echnology is M = σ m 1 S U ξ V 1 ξ K 1 S N 5 6

8 where U is he rae of unemploymen and V are he available vacancies. Defining he V labour marke ighness as θ =, he probabiliy of filling a vacancy is z = 1 SU M /V = σ m θ ξ, while he probabiliy of he family convering a uni of ime from a sae of unemploymen o a sae of employmen is s = M / 1 S U = σm θ 1 ξ. We assume ha exising maches are desroyed a an exogenous rae ϑ every period, while newly formed maches sar working wih a one period delay. This implies he following evoluion of employmen 1 S N = 1 ϑ 1 S N 1 + M 1 The value o he family of possessing a job is given by V E = 1 τ w h H u l,h + e N + ψ [ + E q,+1 1 ϑv E u c, u +1 + ϑv U ] +1 c, and includes four erms: he afer-ax real wage income, he cos of leisure forgone when in employmen expressed in consumpion unis 7, he uiliy benefi of employmen also expressed in consumpion unis, and finally he coninuaion value as a weighed average of he expeced fuure values of employmen and unemploymen, wih weighs given by he separaion rae ϑ. q,+1 is he sochasic discoun facor for real payoffs, q,+1 = β u c,+1 u c,. The payoffs from no possessing a job are given by he unemploymen benefis ϖ in real erms and a similar coninuaion value where he weighs are now given by he probabiliy of finding a job, s : V U [ = ϖ + E q,+1 s V+1 E + 1 s V+1 U ] The ne value of a job o he family can hus be wrien as V E V U = 1 τ w h H ϖ u l,h + e N + ψ [ +E q,+1 1 ϑ s V+1 E V U ] +1 u c, u c, 6 The value of a mach o an inermediae firm, J, is given by is curren afer-ax real profis and he value of he discouned expeced fuure profis, should he mach survive ino he nex period. n addiion, we assume he governmen suppors he creaion of new jobs via a lump-sum subsidy Ξ o firms enering he marke, hence he expression for J is: J = 1 τ Π,i + Ξ + E q,+1 [1 ϑj +1 ] 7 Poenial inermediae goods firms or he households ha own hem mus pay a cos 1 τ κ o pos a vacancy. 8 Since here are no impedimens o posing vacancies, hey will be posed unil hey equal he discouned expeced value of any mach ha could emerge 1 τ κ = E q,+1 z J +1 Togeher wih he expression for J, he job creaion condiion, wrien in erms of he 7 The forgone leisure associaed wih one job includes he ime devoed o work, h, and he ime spen in raining o accumulae human capial, e N. 8 We are assuming ha he vacancy posing coss are ax deducible. 7

9 marke ighness parameer θ, is: [ ] 1 τ κ σ m θ ξ = E q,+1 1 τ +1 Π,i +1 + Ξ ϑ 1 τ +1 κ +1 σ m θ ξ +1 8 Noe ha unemploymen benefis ϖ, he vacancy coss κ, as well as he subsidy Ξ, mus be rising over ime o ensure saionariy and we assume hey grow in line wih he general level of human capial in he economy FamilyWorker - Firm Bargaining Families and firms ha have made a mach bargain over real wages and hours worked, in order o maximise he Nash produc of heir respecive surpluses, V E V U η J 1 η. The firs order condiion for he real wage is and for hours worked i is ηj = 1 η V E V U mrs = 1 τ 1 τ x mpl 10 where mrs u l, u c, is he marginal rae of subsiuion beween consumpion and leisure and mpl 1 α Y,i h is he marginal produc of labour of inermediae goods firms Furher Manipulaions Using he bargained wage condiion 9 and he definiions of profis Π,i and of V E 9 V U and J in equaions 5-7, we obain he real wage bill as a weighed average of he reurns from a mach o he firm and o he household, reflecing he naure of wage deerminaion in he labour search framework see Appendix A for deails 1 τ κ σ m θ ξ [ w h H = η 1 α ɛ 1 1 τ ɛ x Y,i + Ξ ] + θ κ 1 τ + 1 η ϖ + mrs h + e N ψ/u c, 1 τ Then, ogeher wih he definiion of profis, he job creaion condiion 8 can be wrien as follows 1 τ +1 1 α ɛ 1 1 ɛ τ +1 x+1 Y,i +1 = βe u c,+1 u c, 1 η mrs +1 h +1 + e N + ψ/u c,+1 ϖ +1 + Ξ ϑ ησ m θ 1 ξ +1 1 τ +1κ +1 σ mθ ξ +1 This expression is closer in form o ha delivered by he social planner s problem and will allow us o beer highligh some of he disorions arising from he labour marke. 8

10 2.4 Final Goods Secor Firm i in he final goods secor convers he homogeneous inermediae good obained as he aggregae of all inermediae goods ino a final differeniaed produc, Y i. does so using a linear echnology, Y i = Y i, where Y i is he amoun of he homogenous inermediae good used as inpu in producion. The oal nominal cos of producing final good i is given by P Y i, implying a nominal marginal cos MC = P and an associaed real marginal cos mc = p, common across firms. Firms supply heir producs o households and he governmen for he purposes of consumpion and invesmen. Each of hese secors aggregaes hese differeniaed goods ino he same CES-ype baske, such ha heir cumulaive demand for each differeniaed final good is given by P Y i i ɛ = Y 11 P where Y = C + + φ 1 1 K K + κ V + G and P 0 P i 1 ɛ 1 ɛ di is he associaed final goods price index. Final goods producers are also subjec o he consrains of Calvo 1983-conracs such ha, wih fixed probabiliy 1 ω in each period, a firm can rese is price and wih probabiliy ω i reains he price of he previous period. When a firm can se he price, i does so in order o maximise he presen discouned value of afer-ax profis, [ ] E ω s Q,+s 1 τ +s 1 τ P i MC Y i, and subjec o he demand for is s=0 own good 11 and he consrain ha all demand be saisfied a he chosen price. Profis are discouned by he s-sep ahead sochasic discoun facor Q,+s and by he probabiliy of no being able o se prices in fuure periods. τ is a revenues ax/subsidy which we use as par of our se of ax policy insrumens ha can render he decenralised equilibrium effi cien. Opimally, he relaive price saisfies he following relaionship: P ɛ 1 = 1 τ ɛ E s=0 ωβs 1 τ +s u c,+s p P +s P Y+s +s P ɛ 1 1 ɛ E s=0 ωβs 1 τ +s u P c,+s P Y+s +s Wih ω of firms keeping las period s price and 1 ω of firms seing a new price, he final goods price index evolves according o: 2.5 The Governmen P 1 ɛ = 1 ω P 1 ɛ + ωp 1 ɛ 1 The governmen purchases goods for public consumpion G and pays unemploymen benefis ϖ. levies a general income ax τ on households income including wage income, income from capial renals and ne profis from ownership of firms. also raises axes τ and τ on he revenues of inermediae goods firms and final goods firms, respecively, and provides a subsidy υ for capial hiring and a subsidy Ξ o newly creaed firms. The resuling ne governmen budge defici is financed via lump-sum axaion on 9

11 households T where, in case of a surplus, T represens a subsidy. { [ τ G +ϖ 1 S U +υ p K w h H 1 S N + Π κ V + p K ] } K K +Ξ M = +τ p S p Y + τ Y + T 12 We consider moneary policy se opimally wih commimen, bu also explore alernaive policy seings in he form of simple Taylor-ype rules see Secion 7. n assessing he role of he various disorions in our economy and heir implicaions for he radeoffs faced by moneary } policy, we will assign specific roles o he se of ax insrumens {τ, τ, τ, υ, Ξ, as deailed in Secion 4. Finally, governmen expendiures are assumed o grow in line wih he level of human capial, G = g H, and we allow for exogenous cyclical variaions in g, specified as: ln g = 1 ρ G ln g + ρ G ln g 1 + ε G, wih ε G iid 0, σ G. 2.6 Aggregaion and Saionariy Appendix B provides he deails of aggregaion, which implies ha aggregae oupu is given by S p Y = [ 1 SN ] ν A K α h H 1 SN 1 α 13 which is he sandard consrain, adjused for he exisence of price dispersion, S p P i ɛ P di, and for variaions in he number of inermediae goods varieies induced by 1 0 he presence of unemploymen/compulsory schooling. The price dispersion erm follows an AR1 process see?, Chaper 6: ɛ P S p = 1 ω + ωπ ɛ P S p Combining he household s budge consrain 1 wih he governmen budge consrain 12 and he definiion of profis Π = 1 τ τ p S p Y w h H 1 S N 1 υ p K K and given ha, in equilibrium, ne financial asses are zero in he absence of governmen deb, he aggregare resource consrain is: C + + φ K + κ V + G = Y. 15 K Equilibrium condiions are hen rendered saionary by expressing aggregae nonsaionary variables relaive o he curren level of human capial. Appendix B liss he enire se of equilibrium condiions in boh non-saionary and saionary forms. Here we only include hose equaions o which we make specific reference in he res of he paper. Defining x X /H, where X = {K, Y, C, }, and x X /H, where X = {Ξ, mrs, mpl, mpk, u c, }, and ϖ ϖ H, κ κ H, λ 3 λ 3 H, and γ H +1 /H, we hen have: The firs order condiion for physical capial: ũ c, 1 + φ i γ k = βe ũ c,+1 1 τ +1 p K +1 φ i+1 k +1 + φ i +1 i+1 k +1 k φ i +1 1 k +1 δ K 16 10

12 The value of a uni of human capial: [ ] λ 3 γ = βe ũ c,+1 1 τ +1 w +1 h +1 1 S N S N +1 δ N Sδ N 1 S U +1 δ U +βe λ S N +1 θ N A e θ N N N + S θ S A e θ S S S Hours decision: nermediae goods firms choice of capial: mrs = 1 τ 1 τ x mpl 18 1 τ x mpk = ɛ ɛ 1 1 υ p K 19 Job creaion dynamics: 1 τ κ σ m θ ξ = βe ũ c,+1 ũ c, 1 η 1 τ +1 1 α ɛ 1 ɛ 1 τ +1 x+1 y,i +1 mrs +1 h +1 + e N + ψ/ũ c,+1 ϖ + Ξ ϑ ησ m θ 1 ξ +1 1 τ +1κ σ mθ ξ A Consrained Social Planner s Problem We consider a social planner s problem, where he planner is consrained by he workings of he labour marke see, for example, Tomas 2008, Arseneau and Chugh 2009, and Faia 2009, and which delivers a consrained effi cien allocaion ha allows for a measure of he bes employmen level. Specifically, he social planners chooses real allocaions o maximise he represenaive household s uiliy subjec o he usual consrains including he aggregae resource conrain, he producion echnology, he evoluion of physical and human capial, as well as he consrains peraining o he labour marke he evoluion of employmen and he maching echnology. Consisenly wih he assumpions made in he decenralised equilibrium, we also impose ha effor for he accumulaion of human capial e N is consan, while he vacancy posing coss κ and governmen spending G grow in line wih human capial. 9 We presen below he opimal choices ha arise from his problem, already in saionary form, wih full deails included in Appendix C. The choice of hours worked h is such ha marginal rae of subsiuion beween consumpion and leisure equals an aggregae measure of he marginal produc of labour: mrs = [ 1 SN ]ν mpl 21 where mpl 1 α yi h is he marginal produc of labour of he individual firm. Similarly, he firs order condiion for physical capial equaes he cos of addiional 9 n he absence of uiliy benefis from public goods consumpion, he social planner would opimally se G = 0. However, in order o be able o compare he oucome in he decenralized economy wih he social planner s allocaion, we assume G = g H bu absrac from cyclical flucuaions in g such ha g = g a all imes. 11

13 invesmen inclusive of he marginal adjusmen coss of capial conversion o he expeced fuure benefis, evaluaed from he view of he aggregae economy: [ ]ν ũ c, 1 + φ i 1 SN i k γ = βe ũ mpk φ +1 k+1 + φ i +1 i +1 k+1 k+1 c,+1 1 δ K φ i +1 k +1 where mpk α yi is he marginal produc of capial of he individual firm and he firs k i erm on he righ hand side gives he corresponding measure a an aggregae level. The firs order condiion for human capial is λ 3γ = βe ũ [ c,+1 1 α y +1 κv +1 g ] + βe λ 3+1γ and capures he value of human capial from he poin of view of sociey as a whole. includes he expeced posiive effec on fuure aggregae oupu, ne of increased governmen expendiures and vacancy-posing coss, as well as he value of a higher rae of economic growh. Finally, he social planner s opimal vacancy posing/job creaion condiion is given by he following expression: y+1 ν + 1 α mrs 1 SN+1 +1 h +1 + en + ψ ũ c,+1 κ σ m θ ξ = βe ũ c,+1 ũ c, 1 ξ λ 3+1 ũ c,+1 δ N δ U A N e N θ N ] + [1 ϑ ξσ m θ 1 ξ +1 κ σ mθ +1 ξ Marke Fricions and he Role of Policy Our model economy is characerised by a number of fricions and disorions: i nominal ineria in price seing; ii monopolisic compeiion in boh secors of producion; iii a se of exernaliies, arising from he aomisic naure of he labour marke, which affec vacancy posing and job creaion dynamics, wih furher implicaions for he economy and paricularly for he accumulaion of human capial and growh. Such an array of disorions creaes rade-offs for he moneary policy maker using a single policy insrumen. To beer assess he significance of hese disorions and heir impac on moneary policy seing, we follow he ax approach of Ravenna and Walsh 2011 and assign o our ax insrumens specific roles ha arge differen disorions. This is such ha, used ogeher, all policy insrumens allow he policy maker o reproduce he consrained social planner s allocaion. Firsly, le moneary policy be solely concerned wih ensuring price sabiliy, in which case price dispersion is eliminaed, S p = 1, and final goods prices are se a a consan markup over marginal cos. Defining µ P as he raio of he final goods prices over P he nominal marginal cos, price sabiliy in our model gives: µ = µ = ɛ/ ɛ 1 1 τ 25 12

14 To offse he effecs of monopolisic compeiion in he final goods secor, we se he subsidy τ o a consan 1 τ = ɛ 26 ɛ 1 which furher implies µ = µ = 1. An effi cien choice of hours requires mrs = [ ]ν 1 SN mpl, as in he social planner s condiion 21. The bargaining oucome for hours in 18 saisfies his condiion if 1 τ 1 τ = 1 27 µ Comparison of he Euler equaions for physical capial 16 and 22 suggess ha he choice of capial is opimal if he afer-ax renal price of capial equals an aggregae measure of he marginal produc of capial, 1 τ p K = [ 1 S ]ν N mpk. An expression for p K, obained from he firm s choice of capial in 19, ogeher wih he fac ha he relaive price of inermediae goods can be wrien as x = [ 1 S ] ν N 1 µ, indicaes ha effi ciency is achieved if 1 τ 1 τ ɛ 1 1 µ ɛ = υ Hence, if hours are chosen effi cienly as per he condiion in 27, hen he capial renal subsidy υ in 28 can be se o offse he effecs of he monopolisic compeiion exernaliy in he inermediae goods secor and hus ensure an effi cien choice of capial, 1 υ = ɛ 1 ɛ 29 Finally, we compare he job creaion condiion in he decenralised equilibrium 20 wih ha of he social planner 24, in order o highligh hose exernaliies arising from he labour marke and affecing he posing of vacancies and job creaion dynamics. The y+1 oupu relaed erm in he social planner s condiion, ν + 1 α, capures he 1 SN +1 effec of an addiional job on aggregae oupu and consiss of a posiive aggregae effec, inclusive of love-of-variey effecs, equal o ν + 1 and a negaive y+1 capialinensiy effec of α y +1 1 SN +1 1 SN +1, reflecing he fac ha an increase in he number of jobs/firms reduces he level of capial available for each individual firm, µ +1 k 1 SN, hus reducing producion. The ne effec is however posiive. The equivalen erm in he decenralised equilibrium condiion can be re-wrien as, 1 τ +1 1 α ɛ 1 1 τ ɛ x+1 y,i +1 1 τ [ = 1 τ ν + 1 α ν + α ] y +1 ɛ 1 SN +1 The effi ciency condiion for hours worked 27 makes he produc of he ax insrumens 1 τ +1 1 τ +1 µ +1 = 1. Then, he remaining erm reveals wha we shall call he oupu exernaliy, whereby firms/workers fail o fully accoun for he effec of an addiional job 13

15 on economy-wide oupu by an amoun equal o 10 Ξ Y +1 = ν α y +1 ɛ 30 1 SN +1 The second exernaliy is associaed wih he unemploymen benefis ϖ, which raise he ne value of a job o he household and hence increase he bargained wage, wih subsequen negaive effecs on job creaion. We le Ξ UB +1 = ϖ. 31 A hird exernaliy, o which we refer o as he human capial exernaliy, arises from he fac ha firms/workers do no inernalise he effecs of job creaion on he accumulaion of human capial, as does he social planner. This exernaliy is capured by he erm Ξ H +1 = λ 3+1 δ θ N δ U N A ũ N e N 32 c,+1 which appears in he social planner s condiion 24 bu is missing from he decenralised equilibrium condiion 20. Wih δ N < δ U, ΞH +1 > 0, hence his exernaliy makes he labour marke oo igh and unemploymen ineffi cienly high. An accurae measure of Ξ H +1 requires an opimal valuaion of human capial, λ 3+1, from he perspecive of he economy as a whole, as given by social planner in equaion 23. We assume he governmen is able o underake such an evaluaion. 11 To compensae for hese hree exernaliies, he governmen ses he lump-sum subsidy Ξ, provided o newly creaed firms, o: Ξ +1 = Ξ Y +1 + Ξ UB +1 + Ξ H Wih his subsidy in place, he only remaining ineffi ciency in job creaion is due o he congesion exernaliy, arising from deviaions from he Hosios 1990 condiion for effi ciency, which requires he firms bargaining power, 1 η, o equal he elasiciy of he maching funcion wih respec o vacancies, 1 ξ. f η < ξ, hen inermediae goods firms have srong incenives o pos vacancies and unemploymen is ineffi cienly low. To correc his ineffi ciency, he governmen can use he income ax τ o ensure he job creaion condiion in he decenralised economy maches ha of he social planner. This in urn implies ha he ax on inermediae firms revenues τ mus be such ha he effi ciency condiion for he choice of hours 27 is saisfied. f he Hosios condiion holds η = ξ and given he subsidy Ξ +1 and all oher policy insrumens are in place, hen job creaion and hours worked are effi cien wih τ = τ = 0. Through he judicious seing of policy, as given in he effi ciency condiions 25-33, he decenralised economy is able o achieve he social planner s allocaion. 10 This erm is posiive in he presence of love-of-variey effecs i.e. ν = 1/ ɛ 1, bu negaive when ν = We noe ha he valuaion of human capial λ 3 in he decenralised equilibrium, in eqn. 17, is from he poin of view of he household and hence differen from ha of he social planner. This discrepancy highlighs furher exernalies in our economy, which we can however ignore, as λ 3 does no affec he res of he economy, when effor e N is exogenous. 14

16 5 Calibraion We underake wo calibraions of he model designed o replicae he U.S. and European economies. Table 1 conains a lis of he model parameers and heir calibraed values. For some parameers denoed wih in he able, we impose values based on exising esimaes in he lieraure and some of hese denoed wih are common for he wo economies considered. The res of he parameers are calibraed o mach a se of seady sae relaionships and daa momens from he wo economies over he period 1980:Q1-2008:Q4 for he U.S. and 1980:Q1-2005:Q4 for Europe. The household discoun facor and rae of depreciaion of physical capial are sandard. The quarerly discoun facor is se equal o 0.99, implying an annual rae of ime preference of 4%, as is sandard in he lieraure. n combinaion wih he oher parameers, his implies a seady-sae annual real ineres rae of 7% and 6% for he U.S. and Europe, respecively. This is obviously far higher han he risk free rae observed in he daa and reflecs he well-known risk-free rae puzzle of Weil 1989 whereby represenaive agen models ypically imply a very high risk-free rae of ineres for a discussion see reland An alernaive approach would have been o reduce he household s rae of ime preference in β in order o achieve he observed risk-free real rae see, for example, Smes and Wouers, However, his would grealy inflae he discouned coss of shocks in our model. The rae of depreciaion of human capial during employmen reflecs he esimaes of DeJong and ngram While he rae of depreciaion of human capial when unemployed implies a dip in salary of 15% following a one year spell of unemploymen consisen wih he range of esimaes discussed in Rannenberg2009. The parameer in he adjusmen cos funcion, µ = 1.78, is calibraed in line wih he esimaes of his parameer obained from regressions based on he q-model of invesmen see, for example, Eberly 1997 and he exensive discussion of he empirical evidence in Barlevy 2004 Furher imposed parameers include he labour supply elasiciy which comes from he Bayesian esimaion of Smes and Wouers 2005, he esimaes for price sickiness reflecs he esimaion in Leih and Malley The maching elasiciy wih respec o unemploymen is se o 0.72 for he U.S. based on he esimaes of Shimer 2005 and o 0.6 for Europe following Chrisoffel e al The level of unemploymen benefis/insurance was chosen o achieve a U.S. replacemen raio of 15% his reflecs he esimaes in Pallage e al 2008 for Ohio which he auhors argue o be represenaive of he U.S. as a whole and he far higher raio of 65% for Europe from Chrisoffel e al While he relaively modes human capial accumulaion exernaliies refleced in θ N = 0.9 come from he evidence cied in de la Croix and Doepke The mark-up in he final and inermediae goods secors are se o 9.1% in boh economies, implying an overall mark-up of 19% in line wih ypical calibraions of New Keynesian models see, for example, Leih and Malley, The remaining parameers {A N, A S, α, ϕ 0, η, ϑ, A, ψ} were chosen o achieve a se of seady-sae relaionships deailed in Table 1. Specifically, ha 1/3 of ime spen in employmen was spen working, Erceg e al, 2000 and 0.2 of ha ime was spen on human capial augmening on he job raining see Kim and Lee, 2007, while 0.3 is he proporion of ime spen in school see he evidence presened in Angelopoulous e al, The calibraion also ensures he model generaed he labour share values, average pos-1980 growh raes and observed unemploymen raes across he wo economies. Esimaes from he OECD sudy on Human Capial Lui, 2011 sugges raios of Human Capial o GDP of around 9.5, wih a comparable raio for physical capial of 2.2. While he esimaes for 15

17 he Euro area are incomplee, here are a range of esimaes across European economies, such ha assuming similar raios in Europe does no seem unreasonable. The disuiliy coss of unemploymen, ψ, were calibraed such ha he hey offse he leisure gain due o being unemployed. This is slighly above he calibraed value in Gali 2010 based on ime devoed o job search when unemployed, bu as noed by Gali is below he values ha would be consisen wih he very large coss of unemploymen found in he happiness lieraure Frey, MT book. The fac ha reservaion wages are ofen esimaed o be below he value of unemploymen benefis also sugges ha here are significan uiliy coss o unemploymen see Bloemen, The calibraion also recreaes a key sylised fac ha he probabiliy of exiing unemploymen and finding a job is significanly higher in he U.S. han Europe while he calibraed separaion raes are only modesly higher in he U.S., consisen wih empirical esimaes - see Hobijn and Sahin, Moreover, workers bargaining power is calibraed o be around 0.33 in Europe relaive o he lower figure of 0.27 in he US, which capures he greaer degree of unionisaion in Europe. The shares of governmen consumpion o GDP are imposed following he evidence in Gali The calibraion implies a reasonable composiion of GDP in he wo economies, while he implied discouned value of a mach is around 24% of annual salary in he U.S., and 26% in Europe, where European firms pay lower vacancy posing coss. The various calibraed echnology parameers are similar across he wo economies, wih marginally higher produciviy, ce. par. in he U.S. and more effi cien accumulaion of human capial while working in he U.S. 16

18 Table 1: Parameers and heir calibraed values for he US and Europe Parameer US Europe Descripion Preferences β Household discoun facor ϕ Labour supply elasiciy. ϕ Weigh on labour supply in uiliy. Targes h = 1/3. ψ Relaive Disuiliy Cos of Unemploymen Human capial accumulaion δ N Rae of depreciaion of human capial when in employmen. δ U Rae of depreciaion of human capial when unemployed. θ N = θ S Elasiciy of human capial accumulaion o effor when employed and in schooling. A N Effi ciency of human capial accumulaion when employed. A S Effi ciency of human capial accumulaion when in schooling. Physical capial accumulaion and inermediae goods producion δ K Rae of depreciaion of physical capial. ς nvesmen adjusmen cos parameer. ς nvesmen adjusmen cos scaling parameer. α Weigh on physical capial in goods producion funcion. A Technology parameer, inermediae goods producion. ɛ /ɛ 1 9.1% 9.1% Mark-up for inermediae goods firms. Labour marke bargaining η Workers bargaining power. ξ Elasiciy of maches w.r.. unemploymen. σ m Effi ciency of maching funcion. κ Vacancy posing coss ϑ Separaion rae ϖ 0.15 wh 0.65 wh Unemploymen benefis. Targes replacemen raio. Final goods producion ɛ/ɛ 1 9.1% 9.1% Mark-up for final goods firms. ω Probabiliy of no price change wihin a quarer. Exogenous shocks ρ A ρ G σ A σ G Auocorrelaion of echnology shock. Auocorrelaion of governmen spending shock. Sandard deviaion of echnology shock. Sandard deviaion of governmen spending shock. Noes: The able repors calibraed values for he US and Europe. denoes an imposed value and a value ha is common for he US and Europe. Oher parameers are calibraed o daa from 1980:Q1-2008:Q4 for he US and 1980:Q1-2005:Q4 for Europe. And inflaion is zero π = 1. 17

19 US Europe Descripion S Proporion of ime spen in school. h 1/3 1/3 Hours worked when employed. e N 0.2 h 0.2 h Human capial effor while in employmen. e S 1/3 1/3 Human capial effor while in school. U Unemploymen rae. s Quarerly probabiliy of finding a job. V/ 1 S U 1 1 Vacancy o unemploymen rae normalizaion γ % 2.06% Annual growh rae H/4y Human capial o oupu raio k/4y Physical capial o oupu raio g/y Governmen spending o oupu raio wh 1 S N/y Labour income share. Table 1: Daa elemens mached in he calibraion. US Europe Descripion i/y nvesmen/oupu Raio c/y Consumpion/Oupu Raio κv/y Vacancy Posing Coss/GDP r 7.10% 6.22% Real neres Rae annualised v E v U /4wh Value of a mach as proporion of salary. Table 2: Addiional implied seady-sae values 18

20 6 Opimal Moneary Policy 6.1 The long-run Decenr. Econ. Hosios mc_ mc_f Hosios +mc_ +mc_f γ % daa 2.48% 2.89% 2.89% 2.51% c y c/y i/y k/4y 2.2 daa N 93.7% daa 90.13% 93.77% 93.83% 90.4% U 6.3% daa 9.87% 6.23% 6.17% 9.6% V/ 1 S U h daa leisure welf are Table 3: Seady-sae resuls, US calibraion. The columns correspond o: 1 fully decenralized economy, 2 Hosios condiion holds, 3 marke power of inermediae goods firms offse by cos subsidy, 4 marke power of final goods firms offse by revenues subsidy, 5 cumulaive effecs of 2-4. Decenr. Econ. Hosios mc_ mc_f Hosios +mc_ +mc_f γ % daa 1.64% 2.07% 2.10% 1.75% c y c/y i/y k/4y 2.2 daa N 91.07% daa 87.43% 91.35% 91.65% 88.46% U 8.93% daa 12.57% 8.65% 8.35% 11.54% V/ 1 S U h daa leisure welf are Table 4: Seady-sae resuls, Europe calibraion. The columns correspond o: 1 fully decenralized economy, 2 Hosios condiion holds, 3 marke power of inermediae goods firms offse by cos subsidy, 4 marke power of final goods firms offse by revenues subsidy, 5 cumulaive effecs of

21 Hosios +mc_ +mc_f +Y_ex +UB +H_ex Social Planner γ % 2.54% 2.54% 2.78% 2.79% c y c/y i/y k/4y N 90.4% 90.65% 90.68% 92.79% 92.92% U 9.6% 9.35% 9.32% 7.21% 7.08% V/ 1 S U h leisure Ξ Ξ/c welf are Table 5: Seady-sae resuls, US calibraion - con d. Column 1: Hosios condiion holds and monopoly power in boh secors offse via subsidies. n columns 2-4, he subsidy capxi is hen used o separaely accoun for: aggregae oupu effecs, unemploymen benefis, human capial exernaliies. See Secion X for deails. Wih all insrumens used appropriaely, he social planner s allocaion in column 5 is obained. n Tables 3-6 we examine he implicaions of removing he various disorions in our model. We do his progressively, by considering various marke power disorions in Table 3 for he US and Table 4 for Europe, before considering he remaining labour marke disorions in Tables 5 and 6, respecively. We begin wih Table 3 where he firs column deails he calibraed seady-sae of our decenralised equilibrium. The nex hree columns remove various forms of marke power - namely he bias in bargaining owards firms implied by he deviaion from he Hosios condiion and monopolisic compeiion in he inermediae and final goods secors, respecively. The final column removes all hree forms of marke power simulaneously. Here we can see ha reducing he power of firms in he Nash bargain o he levels implied by he Hosios condiion leads o a significan increase in unemploymen from 6.3% o European levels of 9.87% and an associaed rise in labour marke ighness θ falls. Associaed wih he higher unemploymen, we observe a fall in he growh rae from he 2.88% recorded in he daa and imposed in he calibraion o 2.48%, which leads o a fall in seady-sae welfare, despie slighly higher levels of consumpion and leisure. n conras, reducing he monopoly power, in eiher he inermediae or final goods secors, implies a modes fall in unemploymen and an increase in growh and welfare. Simulaneously removing hese marke-power disorions is dominaed by he effecs of imposing he Hosios condiion in erms of reduced long-run growh raes, higher unemploymen raes and a igher labour marke. However, welfare is marginally improved due o increased consumpion levels. A similar paern is found for Europe in Table 4, excep ha he combined eliminaion of he hree forms of marke power is slighly welfare reducing in his case. Nex, Table 5 begins wih he decenralised equilibrium afer he removal of he hree sources of marke power analysed in Table 3 and considers he marginal effec of removing hree exernaliies which firms/workers do no ake accoun of when bargaining over wages and deciding o pos vacancies. The firs of hese is he fac ha each addiional job creaed increases aggregae oupu, primarily via increases in he variey of inermediae 20

22 Hosios +mc_ +mc_f +Y_ex +UB +H_ex Social Planner γ % 1.84% 2.06% 2.31% 2.38% c y c/y i/y k/4y N 88.46% 89.23% 91.27% 93.55% 94.15% U 11.54% 10.77% 8.73% 6.45% 5.85% V/ 1 S U h leisure Ξ Ξ/c welf are Table 6: Seady-sae resuls, Europe calibraion - con d. Column 1: Hosios condiion holds and monopoly power in boh secors offse via subsidies. n columns 2-4, he subsidy capxi is hen used o separaely accoun for: aggregae oupu effecs, unemploymen benefis, human capial exernaliies. See Secion X for deails. Wih all insrumens used appropriaely, he social planner s allocaion in column 5 is obained. goods, which is akin o an improvemen in produciviy in ha secor. This increases he annualised growh rae by around 0.03% and reduces he unemploymen rae by 0.25%. Similar effecs on growh and unemploymen arise when considering he disincenives creaed by unemploymen benefis, as indicaed in column 3 of he able. While he fourh column subsidises he creaion of a job so as o ensure firms/workers inernalise he impac on human capial accumulaion of he creaion of an addiional job. n he U.S., he marginal impac on he annualised growh rae is 0.27% and unemploymen falls by 2.39%. Combining all hree labour marke disorions, ogeher wih he removal of marke power in he inermediae and final goods markes, as well as imposing he Hosios condiion, allows us o recreae he consrained social planner s allocaion, which is deailed in he final column. neresingly, while individual disorions appear o have very large effecs paricularly he failure o impose he Hosios condiion and he failure of firms/workers o ake accoun of he impac of heir acions on aggregae human capial accumulaion, he ne impac of all he disorions aken ogeher is relaively modes, due o parially offseing effecs. Relaive o he benchmark economy, we observe a marginal increase in unemploymen of 0.78% and a small reducion in he growh rae of 0.09%. Neverheless, he removal of he numerous disorions does enable he U.S. economy o accumulae more capial and produce more wih an associaed increase in welfare, due o higher long-run consumpion. Finally, Table 6 underakes he same exercise for Europe by removing he effecs of he remaining labour marke disorions. For he European economy he impac of hese labour marke disorions is significanly greaer. Taking accoun of he benefis of job creaion on he expanded variey of inermediae goods raises he European growh rae by 0.09%, wih an associaed fall in unemploymen of 0.77% his is abou hree imes he equivalen effec for he U.S. economy. Removing he disincenives creaed by he high European unemploymen benefis has even larger effecs compared o he U.S. counerpar, wih a marginal impac on growh of 0.31% and a fall in he unemploymen rae 21