The Supply Side of Jobless Recoveries

Abstract

The fraction of unemployed households with revolving credit more than tripled between the late 1970s and the early 1990s, and new evidence suggests that close to 20% of unemployed households use revolving credit to replace lost income while as much as 40% default in response to job loss. Moreover, research by Chetty (2008) suggests that access to liquid assets is an important determinant of job finding. The natural question is, how has access to 'on-demand' credit changed the way labor markets respond to downturns? After exploring the interaction between job loss/credit markets in the data and describing the innate endogeneity associated with any reduced form answer, I build a new model that features risk averse agents who face both search frictions in the labor market (Menzio and Shi, 2011) and the credit market (Eaton and Gersovitz, 1981). The model mechanism is that easy credit conditions provide a safety net which incentivizes agents to search for better-paying but scarcer jobs. While this is welfare improving, the side effect is joblessness. Following a downturn, I find that an economy with easy credit access experiences a 10% larger drop in employment per capita compared to an economy in which credit is tight (e.g. a 2.2% drop in employment per capita with easy credit access versus a 2% drop with tight credit access). I argue that the model rationalizes a portion of jobless recoveries via supply side phenomenon.