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A Model of "Keynesian" Unemployment Resulting from Adverse Selection

Working Paper 240 | Published December 1, 1983

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Author

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Bruce D. Smith

A Model of "Keynesian" Unemployment Resulting from Adverse Selection

Abstract

A model of a labor market is developed in which agents possess private information about their marginal products. As a result, involuntary unemployment may arise as a consequence of attempts by firms to create appropriate self-selection incentives. Moreover, employment lotteries may arise for the same reason despite the fact that, in equilibrium, there is no uncertainty in the model. When employment is random, this is both privately and socially desirable. Finally, it is shown that the unemployment that arises is consistent with (a) pro-cyclical aggregate real wages and productivity, (b) employment that fluctuates (at individual and aggregate levels) much more than real wages.