Inefficient Unemployment Dynamics under Asymmetric Information

"Inefficient Unemployment Dynamics under Asymmetric Information" by Veronica Guerrieri (Journal of Political Economy, 2008, vol. 116, no. 4.).

This article sets out to discuss what it considers to be a novel externality generated by information asymmetry between job seekers and employers: companies fail to understand the impacts their previous contract offerings have on current negotiations.

Guerrieri accepts the notion that competitive searching for jobs is good. For example, if job seekers can see posted salaries, they will direct their searches more efficiently, and this, ultimately causes the surplus created by the negotiated job contract to be more efficiently distributed. However, she still believes that the asymmetry of information might cause problems.

Basically, the problems work like this: When workers have private information about their own options, they can capture part of this in negotiating a contract. Firms who post contracts at time t+1 affect the options that a worker faces at time t. However, this information is not captured by other firms, causing them to act on incomplete information.

If there is a certain level of unemployment today which is above the steady-state level, then the number of workers who could meet and negotiate with an employer today is higher than it is likely to be tomorrow. Therefore, the average information distortion is also higher today. If job creation tomorrow could be reduced, then there would be less value to continuing one's search, which would reduce the wages a worker would accept, increase employment, and ultimately increase job creation.

On a fundamental level, Guerrieri is going down this path in an attempt to argue that some kind of central planner responsible for intervening in the labor market could improve it. The connections and arguments above seem to me to be tenuous at best.

This is a problem that plagues this type of literature more than just this specific essay, but the raw quantity of unrealistic assumptions required to make these arguments renders them difficult, at best, to apply. For example, in this case, both employers and employees are risk neutral, and employees face no cost of job searching, whereas employers face a cost of posting jobs.

More than anything else, though, this article rests upon one assumption that I don't know to be right. It rests on the assumption that after a shock to the economy, the desire must be to return to the "equilibrium" level of job creation as soon as possible. While this is a nice idea, a shock such as the bursting of a bubble may leave the economy in a situation where the equilibrium rate of job creation and destruction is precisely what is not known (to planners or mere forecasters).