The Amplification of Unemployment Fluctuations through Self-Selection

Unemployment arises from frictions in the matching of job-seekers and employers. The level of resources that employers devote to evaluating applicants for jobs is a key factor in the magnitude of the frictions. Unemployment will be low if employers can review applicants cheaply. The cost of evaluation per hire depends on the fraction of applicants who are qualified for the job. Applicants may be better informed about their qualifications than are employers. If incentives induce self-selection by job-seekers, so that they apply mainly for jobs where they are qualified, friction and thus unemployment will be low. Self-selection is strongest in markets where unemployment is low and jobs are easy to find. Because of this positive feedback, the equilibrium in a market with self-selection is fragile—unemployment is sensitive to its determinants. Self-selection provides a mechanism for amplification of small changes in the determinants of unemployment. ∗This research is part of the research program on Economic Fluctuations and Growth of the NBER. I am grateful to Dale Mortensen, Éva Nagypál, Felix Reichling, and Robert Shimer for helpful comments. A file containing data and programs is available at Stanford.edu/∼rehall