Beliefs- and fundamentals-driven job creation

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Abstract This article studies whether aggregate job creation is driven by economic fundamentals or pure beliefs about the future independent of fundamentals. I develop a dynamic stochastic general equilibrium model with search frictions in the labour market and imperfectly observed temporary and permanent labour productivity changes. Based on this model, I estimate drivers of fluctuations in job creation, which originate from two sources: fundamental labour productivity shocks and pure belief shocks that affect only expectations about future productivity and are independent of actual productivity. The estimation of the model shows that beliefs are important drivers of job creation in economies with larger search frictions. Beliefs explain 13 per cent, 33 per cent, and 44 per cent of employment fluctuations for the USA, the UK, and France, respectively. The findings highlight that expectation shifts play a larger role in explaining job creation fluctuations in economies with lower job-finding rates and during tight labour markets.