The aggregate effects of Labor Market Frictions

Labor market frictions distort the path of aggregate employment by impeding the flow of labor across firms. For a canonical class of frictions, we show how observable measures of such flows can be used to assess the effect of frictions on aggregate employment dynamics. Application of this approach to establishment microdata for the United States reveals that the empirical flow of labor across firms deviates markedly from the predictions of canonical labor market frictions. Firm-size flows react sluggishly to aggregate shocks in the data, but are predicted to respond aggressively in theory. The paper therefore concludes that the propagation mechanism embodied in standard models of labor market frictions fails to account for the sources of observed employment dynamics.