The U.S. labor market is characterized by significant movements of workers switching between employers as well as between different states of labor market participation. Research on unemployment has recognized this fluid nature of the labor market and investigated the role of worker flows in bringing about the observed changes in aggregate unemployment. In this paper, we contribute to the literature on unemployment flows by using the econometric concept of multicointegration to estimate the long-run interactions between the stock of unemployment and the flows into and out of unemployment.
Much of the literature on unemployment flows models the inflows and outflows of unemployment as separate determinants of unemployment and investigate the effect each component has on aggregate unemployment. However, as Elsby et al. point out in their 2009 paper, “inflows and outflows may be inherently inseparable”, indicating that a common factor may exist among the flows into and out of unemployment. According to this view, the inflow rate influences the outflow rate through the former’s impact on the stock of unemployment as well as by direct changes in the level of outflow.
For example, in certain situations an increase in the flow into unemployment raises the stock of unemployed, in turn generating a decrease in the hazard rate of exiting unemployment even though the number of people leaving unemployment remains constant. This interpretation of the labor market implies that cyclical unemployment is determined not only by the relationship between the flows and the stock of unemployment but also the relationship between the inflow and the outflow.
The econometric technique of multicointegration, developed by Granger and Lee (1989, 1990), offers a natural way to model an inventory through modeling the special cointegrating relationships between the stock and flow variables as well as among the flow variables. In this case we use multicointegration to model the stock of unemployed workers as an inventory while taking into account the inseparable nature of the flows into and out of unemployment.
This concept of multicointegration (detailed in Section III) introduces a deeper form of cointegration among variables particularly useful in modeling stock-flow relationships. In the case of unemployment, this multicointegrating relationship identifies a long-run relationship between not only the flow into and out of unemployment, but also between these flow variables and the stock of unemployment itself.
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Modeling Unemployment as an Inventory: A Multicointegration Approach
