## WAGE ADJUSTMENT: Labor Markets and Exchange Rates 5

Posted by Kathryn Schwartz on August 30, 2014

For instance, a purely transitory movement in the exchange rate gives rise to a change in labor demand that is (1 – 5gm) Continue reading…

## WAGE ADJUSTMENT: Labor Markets and Exchange Rates 4

Posted by Kathryn Schwartz on August 28, 2014

Moreover, the foreign price elasticity with respect to exchange rates is proportional to domestic penetration of those markets (Dornbusch 1989). We use these relationships, assume that law of one price holds ex ante, and assume that the product of two trade share terms is approximately equal zero (cM = 0 and cM* = 0).11 Under these assumptions there is a very clean expression for the elasticity of L with respect to exchange rates itat on:

Equation (9) clearly shows the three channels through which optimal labor demand is exposed to exchange rate movements, and the key roles played by industry features and the producer’s external orientation. The three transmission channels are through industry import penetration (M), export orientation (c), and imported input use, a.

## WAGE ADJUSTMENT: Labor Markets and Exchange Rates 3

Posted by Kathryn Schwartz on August 26, 2014

The marginal cost for the firm of an additional unit of labor has three components: 1) the additional wage that has to be paid; 2) the costs incurred in adjusting the level of input use by that additional unit; and 3) the present value of the change in additional costs of changing the optimal labor amount in the future by the firm. The resulting first-order condition has the form:

Equation (5) is a second order difference equation in units of labor. As a step toward solving this equation, it is convenient at this point to define a new variable, L , as that level of input use which would be the optimal amount chosen by the firm in the absence of adjustment costs, i.e. at b=0. Nickell (1986) shows that, under reasonable assumptions, the stable root of the resulting fundamental equation implies a partial adjustment path of optimal employment:

## WAGE ADJUSTMENT: Labor Markets and Exchange Rates 2

Posted by Kathryn Schwartz on August 24, 2014

Exchange Rates and Labor Demand: Profit maximizing producers sell to both domestic and foreign markets and are faced with a variety of demand shocks. Producer decisions depend on the future paths of all variables influencing profitability. In our context, the unknowns to the producer are aggregate demand in domestic and foreign markets, denoted y and y *, and the exchange rate, e, is defined as domestic currency per unit of foreign exchange. Production uses three factors: domestic labor L, domestic capital and other domestic inputs Z, and imported productive inputs, Z*. Respective factor prices are denoted by w, s, and es*. Our focus in the paper is on one factor input, domestic labor. We model changes in the use of domestic input subject to a partial adjustment cost. For simplicity, we assume that labor is a homogeneous input into production and that the levels of capital and foreign inputs can be fully adjusted in the short run with no additional costs this.

## WAGE ADJUSTMENT: Labor Markets and Exchange Rates

Posted by Kathryn Schwartz on August 22, 2014

All else equal, optimal adjustments to labor demand in response to exchange rates movements are increasing in the industry export orientation and import competition. These effects are more ambiguously related to an industry’s use of imported inputs because domestic and imported inputs may be either substitutes or complements in the production function.

The theory presented in Section II also tracks how other industry features should systematically affect the level and mix of industry wage versus employment adjustment, if these features are correlated with labor demand and supply elasticities or the costs of employment adjustment to shocks. 6 Among these features are the mix of skilled and less-skilled workers and the industry unionization rates, which may influence the cost of adjusting the labor force. In addition, industry structure should matter: more “competitive” industries (i.e. those with lower price-over-cost markups) are expected to have more responsive labor demand than more oligopolistic industries.

Posted by Kathryn Schwartz on August 20, 2014

A complete understanding of the effects of exchange rates on economic activity requires an econometric analysis that accounts for these three different forms of exposure and for their evolution overtime.4 Indeed, we find that this decomposition of channels is important for observing the evolving pattern of industry wage responsiveness to exchange rates.

The second important difference between the current paper and the previous work relates to differences in the data used. Although our sample is broader in scope by including all the 2-digit manufacturing sectors this comes at the cost of a higher level of industry aggregation. Revenga (1992) uses data from 3 and 4-digit industries. Our lower estimates for employment elasticities can possibly be explained by this aggregation difference. If most of the employment reallocation gets down among 4-digit industries within a single 2-digit industry, then one should expect very low employment elasticities to exchange rates at the 2-digit level while there is substantial employment turnover within that industry. Low net employment fluctuations in the 2digit industry could be consistent with high rates of job creation and destruction within the industry.

Posted by Kathryn Schwartz on August 18, 2014

Revenga (1992), using a sample of three and four digit manufacturing industries over the 1977 to 1987 period, found that exchange rates have significant implications for employment in the United States, and smaller but still significant effects on wages. The estimates came from a sub-sample of manufacturing industries and focused on the effects of import competition into the United States: the higher the import share of an industry, the more an import price decline or dollar appreciation hurt domestic labor markets.

Instead, using 2-digit industry data for all of manufacturing for a longer sample period -the early 1970s through mid -1990s– we find that industry wages are considerably more responsive than jobs (and hours worked) to exchange rate movements. We also show how this wage responsiveness has been growing over time as U.S. industries become more export oriented. The growth of imported input use by producers provides some offset to the pressures from the export channel partially offsetting its overall effect. More significant wage effects are apparent in industries that have lower price-over-cost markups and with relatively less-skilled workforces further.

Posted by Kathryn Schwartz on August 16, 2014

We know that exchange rates matter. The challenge is pinning down the exact channels for exchange rate effects and their range of specific implications for the real economy. This paper examines the effects of exchange rates on employment, wages, and overtime activity over the past twenty-five years for manufacturing industries of the United States. Two economic trends have been persistent during this period: an increase in the external orientation of the U.S. manufacturing sector and large movements in exchange rates. The goal of this paper is to identify the effects that these exchange rate movements have had on U.S. manufacturing jobs and wages given the changing external orientation of U.S. industries.

Our evidence supports a statistically significant response of industry wages to exchange rate changes, and a very weak statistical relationship between numbers of jobs and employment and dollar movements. The average wage elasticity to a permanent exchange rate change for all manufacturing during this period was 0.04, while the average employment elasticity was only 0.01. We also identify two particular industry features that are associated with the relative importance of exchange rates: the industry competitive structure, and the skill level of its labor force.

## INFORMATION PROVISION: Summary and Conclusions 3

Posted by Kathryn Schwartz on August 14, 2014

It is most likely to lower the dispersion of prices. Information provision will lower price dispersion if information asymmetries are severe and consumers’ willingness to search is positively correlated with consumers’ valuations of quality. If consumers’ willingness to search is sufficiently positively correlated with their valuations of quality, information provision may also reduce maximum and average prices. However, as we have shown in the case of child care markets, information may not significantly affect average prices or the average level of observable quality.

To structure our empirical work, we develop a theoretical model that allows us to discern the effects of information on the price distribution in a vertically differentiated market. We hope that this work will encourage theorists to consider further the implication of information provision in markets with complicated structures like the health and dependent care markets further.

In terms of empirical methods, we use carefully defined local markets as well as individual firms as the unit of observation. The use of well-defined markets is important because the strongest prediction of theory relates to price dispersion. We can only observe the dispersion of prices at the market level. As far as we are aware, there is only one other study that considers the effect of information on price dispersion. This study finds that the dispersion of prices in states that allow advertising of prices for eye examination is lower than the dispersion of prices in states that prohibit such advertising (Feldman and Begun, 1980). Markets for eye examinations like markets for child care are likely to be local not statewide. It would be interesting to see if price dispersion in carefully defined local markets were also to be lower in states that allow advertising. Finally, our study is only the second to explicitly examine the effects of information on the distribution of observable product quality. For previous work, see Kwoka (1984).

## INFORMATION PROVISION: Summary and Conclusions 2

Posted by Kathryn Schwartz on August 12, 2014

We empirically estimate the effects of R&Rs on price dispersion, maximum price, and average price for care. We separately study the effects of information provision on market for the care of infants, toddlers, preschoolers, and school-age children because of inherent differences in care technologies, regulations and information feedback across the different age groups. Older children require less attention from caretakers, and these children are better able to provide parents with more information about the type of care they receive than are younger children. Parents of older children may also be more familiar with local child care options because they have been using child care for more years than parents of younger children. Consequently, information provision may be less useful to parents of older children.

We find that R&Rs have economically large and statistically significant effects on market prices for the care of the youngest children. Results indicate that markets with R&Rs have significantly lower price dispersion and lower maximum prices than markets without R&Rs for the care of infants and toddlers. The results also suggest that R&Rs reduce average prices for infant and toddler care, though these effects are not statistically significant at conventional levels. We find that R&Rs have no effect on the distribution of prices for the care of preschoolers. Finally, we find that R&Rs do not significantly affect price dispersion and average price, but do reduce the maximum price for school-age care. Our model allows us to interpret these results in terms of the relative willingness of parents who value quality care highly and those who value quality care less to bear the costs of searching for the type of care they prefer for their children.