Sources for regional unemployment disparities in Germany: lagged adjustment processes, exogenous shocks or both? Kunz, Marcus

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1 Sources for regional unemploymen dispariies in Germany: lagged adjusmen processes, exogenous shocks or boh? Kunz, Marcus Veröffenlichungsversion / Published Version Arbeispapier / working paper Zur Verfügung gesell in Kooperaion mi / provided in cooperaion wih: SSG Sozialwissenschafen, USB Köln Empfohlene Ziierung / Suggesed Ciaion: Kunz, Marcus ; Insiu für Arbeismark- und Berufsforschung der Bundesagenur für Arbei (IAB) (Ed.): Sources for regional unemploymen dispariies in Germany: lagged adjusmen processes, exogenous shocks or boh?. Nürnberg, 2009 (IAB Discussion Paper: Beiräge zum wissenschaflichen Dialog aus dem Insiu für Arbeismark- und Berufsforschung 19/2009). URN: hp://hdl.handle.ne/10419/32732 Nuzungsbedingungen: Dieser Tex wird uner einer Deposi-Lizenz (Keine Weierverbreiung - keine Bearbeiung) zur Verfügung gesell. Gewähr wird ein nich exklusives, nich überragbares, persönliches und beschränkes Rech auf Nuzung dieses Dokumens. Dieses Dokumen is ausschließlich für den persönlichen, nich-kommerziellen Gebrauch besimm. Auf sämlichen Kopien dieses Dokumens müssen alle Urheberrechshinweise und sonsigen Hinweise auf gesezlichen Schuz beibehalen werden. Sie dürfen dieses Dokumen nich in irgendeiner Weise abändern, noch dürfen Sie dieses Dokumen für öffenliche oder kommerzielle Zwecke vervielfäligen, öffenlich aussellen, aufführen, verreiben oder anderweiig nuzen. Mi der Verwendung dieses Dokumens erkennen Sie die Nuzungsbedingungen an. Terms of use: This documen is made available under Deposi Licence (No Redisribuion - no modificaions). We gran a non-exclusive, nonransferable, individual and limied righ o using his documen. This documen is solely inended for your personal, noncommercial use. All of he copies of his documens mus reain all copyrigh informaion and oher informaion regarding legal proecion. You are no allowed o aler his documen in any way, o copy i for public or commercial purposes, o exhibi he documen in public, o perform, disribue or oherwise use he documen in public. By using his paricular documen, you accep he above-saed condiions of use.

2 IAB Discussion Paper 19/2009 Aricles on labour marke issues Sources for regional unemploymen dispariies in Germany Lagged adjusmen processes, exogenous shocks or boh? Marcus Kunz

3 Sources for regional unemploymen dispariies in Germany Lagged adjusmen processes, exogenous shocks or boh? Marcus Kunz (Universiy of Regensburg) Mi der Reihe IAB-Discussion Paper will das Forschungsinsiu der Bundesagenur für Arbei den Dialog mi der exernen Wissenschaf inensivieren. Durch die rasche Verbreiung von Forschungsergebnissen über das Inerne soll noch vor Drucklegung Kriik angereg und Qualiä gesicher werden. The IAB-Discussion Paper is published by he research insiue of he German Federal Employmen Agency in order o inensify he dialogue wih he scienific communiy. The promp publicaion of he laes research resuls via he inerne inends o simulae criicism and o ensure research qualiy a an early sage before prining. IAB-Discussion Paper 19/2009 2

4 Conens Absrac... 4 Zusammenfassung Inroducion The chain reacion heory of unemploymen Naional and regional daa Saionariy of naional and regional variables Resuls Economeric specificaion and esimaion resuls Labour demand shocks Exogenous shocks Conclusion References Appendix IAB-Discussion Paper 19/2009 3

5 Absrac The paper analyses movemens in he unemploymen rae of Wes German disrics in he period by he chain reacion heory of unemploymen (CRT). The esimaions show ha unemploymen movemens are generaed ogeher by lagged adjusmen processes and by exogenous shocks. We find ha adjusmen processes o labour demand shocks are ransien and do no display hyseresis effecs. The effec of a labour demand shock o he unemploymen rae disappears compleely wihin only 2 years. Approximaely half of he shock affecs he unemploymen rae in he conemporaneous period, he oher half is due o emporal persisence in fuure periods, i.e. lagged adjusmen effecs. These resuls hold for low, middle and high unemploymen regions and are in line wih oher sudies in his field. The effecs of exogenous naional variables are much higher han hose of exogenous regional variables during boh, boom as well as recession years. The differeniaion beween low, middle and high unemploymen regions shows ha he developmen of regional facors would generae a regional convergence process, while naional facors end o impede his developmen. Zusammenfassung Die Sudie unersuch Veränderungen der Arbeislosenquoe in wesdeuschen Kreisen im Zeiraum mi Hilfe der Chain Reacion Theory of unemploymen (CRT). Die Schäzungen zeigen, dass sowohl Anpassungsprozesse als auch exogene Schocks für die Veränderungen veranworlich waren. Anpassungsprozesse nach Arbeisnachfrageschocks sind vorübergehend und zeigen keine Hyseresiseffeke. Der Effek eines Arbeisnachfrageschocks verschwinde innerhalb von nur zwei Jahren. Ungefähr die Hälfe des Schocks schläg sich dabei bereis in der Periode des Schocks in der Arbeislosenquoe nieder, die andere Hälfe wirk sich über zeiliche Persisenz, d. h. über verzögere Anpassungseffeke aus. Diese Ergebnisse gelen sowohl für Regionen mi niedriger, milerer und hoher Arbeislosenquoe und sind mi denen aus anderen Sudien auf diesem Gebie vergleichbar. Die Effeke naionaler exogener Variablen sind sowohl in Boom- als auch in Rezessionsjahren deulich höher als die Effeke regionaler exogener Variablen. Die Unerscheidung in Regionen mi niedriger, milerer und hoher Arbeislosenquoe zeig, dass regionale Fakoren einen regionalen Konvergenzprozess bewirken würden, naionale Fakoren aber dazu endieren, dieser Enwicklung engegenseuern. JEL classificaion: C22, C23, O18, R11, R12 Keywords: unemploymen, dispariies, adjusmen, persisence, hyseresis, convergence IAB-Discussion Paper 19/2009 4

6 1 Inroducion The developmen of he naional as well as he regional labour marke is influenced by a variey of facors more or less closely relaed o he ypical oucome variables like employmen or unemploymen figures. Moreover, hese variables inerac wih each oher in he same period or more probably wih a specific ime lag. Thus, observed reacions in he labour marke a presen are caused by differen variables a differen poins of ime. Especially for a regional economy, hings become even more complex: i can be reaed as small open economy reacing on shocks wihin he region bu also on exogenous changes of he economic siuaion, e.g. in he naional economy. Therefore, a region is likely o respond o boh, regional as well as naional shocks. One of he mos imporan labour marke oucome variables is he unemploymen rae. In many European counries and as well in Germany, he range of he regional unemploymen raes wihin he counry is enormous and even greaer han beween counries. In Germany, he unemploymen rae a disric level in he year 2004 had a range beween 3.7 and 31.8 percen. Addiionally, regional dispariies mainain over long periods of ime. Therefore, he quesion ha arises addresses o he possible sources of hese persisen dispariies. Mos of he common regional labour marke lieraure considers only wo alernaive explanaions for he exisence of regional unemploymen differenials: equilibrium approaches inerpre he inerplay of labour marke (relaed) variables as long-run relaionship, where he variaion of each variable direcly changes he long-run equilibrium in he observed region. Hyseresis approaches insead consider he variaion of variables as ransien. They also impose a long-run relaionship beween he variables, bu, in conras o equilibrium models, changes do no influence he long-run equilibrium. They suppose ha he deviaion from he equilibrium is only ransien and ha adjusmen mechanisms force he labour marke back owards his relaionship. The chain reacion heory of unemploymen (CRT) developed by Karanassou/ Snower (2000) can insead be seen as a combinaion of hese exremes as i allows for boh, changes in he long-run relaionship beween he variables and lagged adjusmen processes. I explicily considers, firs, naional as well as regional and second, conemporary as well as lagged values of endogenous and exogenous variables. Furhermore, he CRT applies a sysem approach which has clear advanages compared o a single-equaion model used in mos equilibrium based sudies, see Elhors (2003) for furher discussion. The major advanage of he CRT is ha i allows o disinguish beween equilibrium and hyseresis effecs as i enables he researcher o measure he quaniies o which he variaion of he regional unemploymen rae is driven by he change of exogenous variables on he one hand and persisen adjusmen behaviour on he oher hand. Of course, variaions may also be due o boh effecs, which is also capured by he CRT. The aim of his paper is herefore o gain a deailed view on he differen mechanisms affecing he unemploymen rae. Especially, he following crucial quesions can be addressed by he CRT: Is i he seady variaion of variables or slow working IAB-Discussion Paper 19/2009 5

7 adjusmen ha leads o sable unemploymen differenials observed in Germany a disric level? Are adjusmen mechanisms presen in he labour marke? If here are any, how long is he adjusmen period of regional unemploymen raes afer he occurrence of a labour demand shock? Which variables have he sronges influence on he unemploymen rae? How much conribued regional and naional exogenous facors o he developmen of he unemploymen rae during he observaion period? Do high, middle and low unemploymen regions reac similarly or do hey show differences in he adjusmen pahs and in he reacion o exogenous shocks? These quesions are answered in he empirical par or he paper. The res of he paper is organized as follows: In Secion 2 he heoreical background of he chain reacion heory is presened. In Secion 3 follows a brief descripion of he daase used in his paper. Secion 4 empirically invesigaes saionariy of he variables a disric level in Germany. The poenial sources of unemploymen variaions, i.e. he persisence of shocks and he effecs of exogenous variables are he focus of Secion 5. Finally, Secion 6 gives some concluding remarks. 2 The chain reacion heory of unemploymen As described in he inroducion, he CRT can be seen as a mixure of equilibrium and hyseresis models. Thus, i combines imporan feaures of boh approaches and accouns for possible shifs in he levels of variables over ime and heir lagged adjusmen processes. Furhermore he oal variaion of he differen variables can be decomposed ino he share of variaion due o equilibrium explanaions and variaion due o hyseresis phenomena. Boh shares can be explicily calculaed as he CRT inerpres changes in he variables by he concep of chain reacions : A single shock in one variable leads o changes in all oher (endogenous) variables. Various feedback effecs capured by he coefficiens of lagged variables hen deermine how srong he effecs are fel in he sysem, how fas he variables reurn o heir seady sae and how much of he shock remains in he sysem. In he following par, he heoreical concep of he CRT developed by Karanassou/Snower (2000) is briefly described. As in many sudies, he labour marke model in he CRT consiss of hree equaions labour demand, labour supply and a wage seing mechanism. The aggregae labour demand equaion is derived from a monopolisic compeiion approach, where idenical firms wih monopoly power in he marke are confroned wih he same producion funcion and produc demand of heir produc. Produc supply is modelled as Cobb-Douglas funcion and depends posiively on employmen and he capial sock of he firm. The produc demand of each firm is calculaed as oal produc demand over he number of firms in he marke, weighed wih he price level of firm i relaive o he price level in he marke. The relaive price level iself is exponenially weighed wih a negaive price elasiciy of produc demand. The labour demand is hen derived by seing he marginal revenue equal o he marginal cos of each firm. The resuling aggregae labour demand equaion hen equals E = α + α E α w + α K + ε, (1) E 1 w K IAB-Discussion Paper 19/2009 6

8 where E represens labor demand, w he real wage and K he capial sock a ime. The wage equaion is generaed from he reservaion wage of each worker in he populaion, where he wage is equal o he reservaraion wage of he marginal empoyee. The reservaion wage is differen for each worker. Then, if aggregae employmen rises, he reservaion wage of he marginal employee rises as well. This relaion is assumed o be linear and equals w = β + β E. (2) E Las, he aggregae labour supply is derived by he labour force paricipaion decision of each person in he working-age: a person will ake up work if he marginal reurn from being in he labour force a leas equals he marginal cos of being in he labour force. The marginal reurn is posiively relaed o he employmen probabiliy and he wage and negaively o he inaciviy rae, i.e. all persons from he workingage-populaion who are currenly no in he labour force. The marginal cos depends posiively on he raio of new enrans ino he labour marke o incumben members. Seing he marginal reurn equal o he marginal cos, he labour force paricipaion equaion becomes: L = γ + γ L + γ w + γ E + γ Z, (3) L 1 w E Z wih L as labor supply and Z as working age populaion a ime. Equaions (1) (3) describe he labour marke in he CRT. As all variables are in logs, he unemploymen rae u can easily be calculaed ou of he relaionship u = L E. (4) In Secion 5, a more elaborae version of he model presened in equaions (1)-(4) is specified. The empirical model is esimaed as srucural vecor auoregressive (SVAR) model of he form A 0 yi = A1 yi 1 + A2 yi 2 + B0 xi + B1xi 1 + C0 z + C1z 1 + εi (5) i i where y is a vecor of regional endogenous variables, x a vecor of regional exogenous variables and z is a vecor of naional exogenous variables. A, B and C are he corresponding coefficien marices and ε i is a vecor of idenically independenly disribued (iid) error erms. In conras o he regional model of Blanchard/Kaz (1992), who focuses exclusively on regional shocks, he above labour marke sysem considers regional as well as naional variables. Therefore, his framework allows o differeniae beween he effecs of naional and regional variaion in he daa. Differen o e.g. Decressin/Faás (1995) or Kunz (2009), one can hen direcly use he naional and regional values for he esimaion. The advanage is ha consrucion and measuremen of region-specific (relaive) variables is no necessary. As according o Marin (1997) he resuls may seriously depend on how hese relaive variables are measured, misleading conclusions due o measuremen IAB-Discussion Paper 19/2009 7

9 issues are eliminaed. Furhermore one is able o discriminae beween regional and naional effecs. Moreover, he framework allows o calculae he exen of changes in he unemploymen rae ha is due o naional and regional variaion and enables o show which of he wo has a sronger influence on he unemploymen rae. The nex Secion describes he daase and explains why differen combinaions of regional unis as well as differen lenghs of he ime series are necessary for he esimaions in Secions 4 and 5. 3 Naional and regional daa The daa se used in his paper is provided by he German Federal Employmen Agency, he German Saisical Office and he Inernaional Moneary Fund. Variables obained from he Federal Employmen Agency are employmen and unemploymen figures as well as wages. Daa from he German Saisical Office conain populaion daa, figures on he gross domesic produc (gdp), gross invesmen figures, he consumer price index, he manufacurer s price index for oil and he gdpdeflaor. Oil prices, ineres raes and he growh rae of he public consumpion expendiures were obained from he Inernaional Moneary Fund. All series are on an annual basis. Table 1 gives an overview of he regional and naional variables used for he esimaion of he empirical model oulined in Secion 2: Table 1 Regional and Naional variables in he daase Regional variables Naional variables n i Employmen oil Real oil prices l i Labour force inv Real invesmen u i Unemploymen rae in Real ineres rae pop i Populaion cons Real public consumpion w i Real wage gdp i Real gdp Prod i Real produciviy All variables excep he unemploymen rae u i, he ineres rae in and he growh rae of public consumpion expendiures cons are in logs. Employmen, wages, gdp and produciviy are measured a he place of work, all oher variables are measured a he place of residence, see Secion 5.1 for furher discussion. The employmen level conains only people covered by he social securiy sysem ( sozialversicherungspflichig Beschäfige ). The labour force is calculaed as sum of employed and unemployed persons. The unemploymen rae is calculaed as difference beween he labour force and employmen. For he populaion variable only he labour marke relevan populaion in an age of years are considered. Wages sem from a wo percen random sample of all employed covered by he social securiy sysem (IABS). Produciviy is calculaed as gdp per employed. As he acive unis in he labour marke focus on real raher han nominal values, all nominal variables are deflaed by a corresponding price index. The nominal oil prices IAB-Discussion Paper 19/2009 8

10 were deflaed wih he manufacurer s price index for oil. Wages were deflaed wih he consumer price index. Gdp, produciviy and invesmen were deflaed via he gdp-deflaor. The naional and regional variables have differen lenghs which can be seen in Table 1. This raises he quesion, which esimaions should be carried ou wih which variables in he following Secions. For he ess on saionariy in Secion 4, always he maximum lengh of he ime series is used. In he esimaions in Secion 5, only daa from are included as real public consumpion limis he daa se. 4 Saionariy of naional and regional variables For he sabiliy of he labour marke sysem oulined in Secion 2 i is necessary ha all variables are saionary, i.e. all lagged coefficiens lie ouside he uni circle. Therefore, he naional and regional variables have o be esed for saionariy. The sandard procedures o es imes series for saionariy are he Augmened-Dickey- Fuller-Tes (ADF) or he Phillips-Perron-Tes o menion only he mos imporan. A disadvanage of all hese ess is ha hey have only low power. Therefore, paneluni-roo ess have been developed o improve he power of he ess. In he recen years, a growing body of lieraure has developed a variey of approaches. For an overview see Breiung/Pesaran (2006). In he following, we es all variables inroduced in Secion 3 for saionariy. For naional variables (ordinary ime-series daa) we use he ADF-Tes and for regional variables (panel daa) we employ he wo common firs generaion panel uni roo ess of Levin/Lin/Chu (2002) and Im/Pesaran/Shin (2003). We sar wih he naionwide variables and use he ADF-Tes allowing for a maximum of wo lags in he esing srucure. The equaion o esimae for each naional variable is K 1 + φk k = 1 Δy = μ + ρy Δy + ε (6) k where μ is a consan erm and he lagged differences of y, Δy k, conrol for serial correlaion among he ε. The null hypohesis of he es is ha he variable under consideraion follows a non saionary process. Each variable is esed including a maximum of wo lagged differences, i.e. K = 2. The p-value of he es for each variable is shown in Table 2: Table 2 ADF-Tes for (rend) saionariy of naional variables Tes Lags oil oil inv in in cons ADF *** *** *** *** ADF *** *** *** ADF ** *** *, **, *** significan a he 10, 5 and 1 percen level IAB-Discussion Paper 19/2009 9

11 As can be seen from he esimaions, only invesmen and he growh rae of public consumpion expendiures can be considered as saionary whereas he real oil price and he ineres rae follow a non saionary process. Therefore, he laer wo variables were also esed in firs differences. The ransformed variables ( oil and in ) are hen found o be saionary. As menioned already above, panel-uni roo es are applied for regional variables. Here, he common firs generaion ess of Levin/Lin/Chu (2002) and Im/Pesaran/ Shin (2003) are used. The basic regression used in boh ess (LLC and IPS), is Δy i i i 1 K = ρ y φ y z, + Δ + γ + ε. (7) k = 1 ik i, k i i i i i As in he ADF-es, he lagged differences of y i, Δyi, k, conrol for serial correlaion among he ε. Furhermore, z may be empy or include a consan erm, fixed effecs or a ime rend ino he regression. Also he null hypohesis, ha ρ i = 0 for all i, i.e. all ime series are independen random walks, is he same in he LLC and he IPS es. Thus, boh ess use he same basic regression and he same null hypohesis. They differ only in he underlying alernaive hypohesis specificaion. LLC specify a homogenous alernaive, where all ρ are equal and significanly lower han 0, i.e. all ime series are saionary, whereas IPS ess he less resricive heerogenous alernaive, where ρ may differ across regions and only a significan i fracion of all ime series is saionary. The resuls of boh ess can be found in Table 3: Table 3 IPS- and LLC-Tes for saionariy of regional variables Tes Lags n i n i l i l i w i w i IPS *** *** *** IPS *** *** *** IPS *** *** *** LLC *** *** *** *** *** LLC *** *** *** *** *** LLC *** *** *** *** *** Tes Lags pop i pop i urae i gdp i prod i IPS *** ** IPS *** ** IPS *** *** *** *** LLC *** *** *** *** *** LLC *** *** *** *** *** LLC *** *** *** *** *** *, **, *** significan a he 10, 5 and 1 percen level i The LLC-es clearly rejecs he null of non-saionariy for all variables excep real wages. According o he resuls of he IPS-es only he unemploymen rae, gdp and IAB-Discussion Paper 19/

12 produciviy can be considered as saionary whereas regional employmen, labour force, real wages and populaion series are non-saionary. Again, he firs differences of hese variables urn ou o be saionary in boh ess. For he esimaions in Secion 5, only variables ha display saionariy in boh ess are included. 5 Resuls In his secion he esimaion procedure and he main resuls of he labour marke model oulined in Secion 2 are presened. Subsecion 5.1 discusses he economeric specificaion and he resuls of he esimaions. The following subsecion hen inroduces he measure of unemploymen persisence, provides resuls for srengh and speed of he unemploymen adjusmen process in he afermah a of a labour demand shock and quanifies he effecs of he employmen variaions during he sample period. Las, Subsecion 5.3 deals wih he effecs of naional and regional exogenous variables on he unemploymen rae. 5.1 Economeric specificaion and esimaion resuls The ime series in Table 1 cover 13 observaions for Wes German disrics ( ). As in oher sudies on regional adjusmen, wo lags are allowed for each endogenous variable o capure non-monoone adjusmen pahs (see Blanchard/Kaz (1992), Decressin/Faás (1995), Frederiksson (1999)). Due o he differeniaion in order of non-saionary variables and he inclusion of wo lags of each endogenous variable, hree observaions are los. The specificaion of he model is based on he following heoreical consideraions: Differen o Karanassou/Snower (2000) or Bande/Karanassou (2007), who esimae he CRT on naional/provincial level, our esimaions are carried ou for a much smaller regional level (disrics). Here, migraion and commuing aciviies display significanly higher values han on a larger regional level, see Kunz (2009). As our focus is o simulae effecs of labour demand shocks, e.g. he closure of a major employer, we use he employmen level a he place of work. The consequence is ha he unemploymen rae can no more be approximaed by log-differences of labour supply and labour demand (boh measured a he place of residence). Therefore, he unemploymen rae is also deermined wihin he model. Because of he close relaionship of he unemploymen rae on he on hand and labour demand and labour supply on he oher hand, we only use simulaneous and one-period lagged labour demand (a he place of work) and labour supply (a he place of residence) developmen o deermine he unemploymen rae, bu no wages or oher exogenous variables. Furhermore, we only allow labour demand o affec all oher variables simulaneously o make sure ha we indeed capure labour demand shocks. Labour supply insead does no affec labour demand and wages, bu he unemploymen rae. Wages are allowed o affec boh, labour supply and labour demand, bu no he unemploymen rae. IAB-Discussion Paper 19/

13 For exogenous variables, simulaneous and one-period lagged values are allowed. Real oil prices, gdp and invesmen figures influence labour demand. Real wages are affeced by real produciviy, invesmen and he ineres rae and labour demand is influenced by populaion effecs, public consumpion behaviour and he ineres rae. Addiionally, dummy-variables for each disric are added in each equaion o capure region-specific fixed effecs. The lag selecion of he resuling specificaion is based on he AIC- and BIC- informaion crieria. Wih regard o he esimaion echnique, a fixed effecs esimaor in a dynamic panel model as described above is inconsisen for fixed, see Nickell (1981) or Kivie (1995 and 1999). Pesaran/Smih/Im (1995) sugges a mean-group esimaor, i.e. he mean of separae regressions obained for each group, which yields consisen esimaes of he average effecs as he number of ime periods increases o infiniy. Frederiksson (1999) argues ha he Seemingly Unrelaed Regression (SURE) produces similar, bu more precise resuls, as i is more efficien and considers he regional correlaion beween each variable in he SVAR. Therefore, he sysem of equaions above is esimaed by hree-sage-leas squares (3-SLS) where all righ hand side variables are assumed o be exogenous. This esimaion procedure is equivalen o a SURE and has he advanage ha i is sill comparable o sudies using a SVAR-model esimaed by OLS. Therefore, he sysem of equaions oulined in Secion 2 is esimaed by he following economeric specificaion: A 0 yi = A1 yi, 1 + A2 yi, 2 + B0 xi + B1xi, 1 + C0 zi + C1zi, 1 + ei (8) ei = μ + υ (9) i i wih i = 1,...,N and = 1,..., T. The vecors y, x and z as well as he coefficien i i marices A, B and C are defined as in equaion (5). The vecor e i represens he error erm and follows a one-way error componen model where μ i capures he regional fixed effec and υ i is idenically and independenly disribued and no serially correlaed. The esimaion resuls of equaion (8) are repored in Table 4 1. Each equaion is esimaed wih 3,260 observaions and is highly significan. As can be seen from he R² of he equaions, he fi of he model is high. The esimaions again show he complexiy of he labour marke srucure and he signs of he variables are prevailingly compaible o he expecaions: Labour demand (he employmen growh rae) depends negaively on he growh rae of real wages. Higher wages hereby reflec higher coss for enerprises and lead o a decrease in he demand of human labour. Gdp as well as he growh rae of real oil prices show a posiive impac on he employmen growh rae during he 1 The values for he region-specific effecs are no presened. IAB-Discussion Paper 19/

14 same observaion period bu a negaive one for he lagged value. Rising gdp represens he general economic siuaion: in boom periods wih economic growh employmen is posiively affeced. A rising oil price raises he coss for enerprises and should herefore have a negaive impac on labour demand, bu only he lagged growh rae of oil prices is compaible o he expecaions. Invesmen figures influence labour demand posiively in conemporaneous as well as in lagged periods. Rising invesmen goes along wih a rising demand for labour as he addiional capial sock also affords addiional workers. Table 4 Esimaion Resuls for all disrics Labour demand: n i Wage seing: w i Labour supply: l i Unemploymen rae: urae i Var. Coeff. Var. Coeff. Var. Coeff. Var. Coeff. L w i *** L w i *** L l i *** l i *** gdp i *** L2 w i *** L2 l i *** L l i *** Lgdp i * n i *** L w i *** n i *** oil *** L n i ** n i *** L n i *** L oil *** urae *** L n i *** inv *** Lurae *** pop i *** Linv *** Lprod *** L pop i *** in *** in *** L in *** L in *** inv *** cons *** Linv *** Lcons *** Obs. 3,260 Obs. 3,260 Obs. 3,260 Obs. 3,260 R² R² R² R² p-val. * ** p-val. * ** p-val. * ** p-val *** *, **, *** signif ican a he 10, 5 and 1 percen level The growh rae of real wages is posiively relaed o he conemporaneous and he lagged employmen growh rae as well as o changes in he aggregae ineres rae. A rising employmen growh rae signifies a srong labour marke where workers are able o push hrough higher wage claims. Ineres raes go along wih he economic cycle and are herefore posiively correlaed wih wages. The unemploymen rae as well as invesmen shows a posiive influence only in he same period. Their lagged values have insead a negaive effec. The coefficien of he unemploymen rae measures he Phillips curve inroduced by Phillips (1958): he sign of he coefficien is posiive and herefore in conras o he posulaed negaive effec of unemploymen on he (nominal) wage growh rae. Only he lagged unemploymen rae shows he expeced sign. Thus a Phillips Curve canno be found in Wes German disric daa. New invesmens usually afford higher skills among he workers which hen go along wih rising wages. As already argued for he employmen growh rae, higher invesmen figures go along wih rising employmen and herefore also wih rising wages. The lagged value of real produciviy displays a negaive sign, i.e. real produciviy depresses he wage growh rae. This negaive effec migh reflec a convergence process for real wages across regions. As he real wage is he moneary IAB-Discussion Paper 19/

15 oucome of he produciviy level, regions wih high produciviy have lower wage growh raes as low produciviy regions which implies a cach up process in real wages of low produciviy regions. The regional labour force is negaively driven by he regional wage growh rae. This is in conras o he expecaions as rising wages should make more people ou of he labour force willing o work. All oher variables (employmen growh rae, populaion growh rae, he growh rae of he naionwide public consumpion expendiures, changes in he ineres rae) show posiive signs. The posiive effec of he employmen growh rae implies ha new jobs in a region also increase he regional labour supply. Rising populaion is a naural source for a rising labour force iself. The posiive coefficien of he public consumpion expendiure growh rae migh reflec labour marke programs subsidized by he public hand pushing addiional people ino he labour force. Rising ineres raes causes people o work more because hey can expec higher capial reurns if hey save heir wages. Addiionally, if people are indeped, hey have o work more o be able o pay heir rising ineres paymens. Thus, boh explanaions jusify he observed posiive coefficien. The unemploymen rae is negaively affeced by boh, he growh rae of labour supply and labour demand in he conemporaneous and he lagged period. While a posiive employmen growh rae means rising employmen and herefore direcly affecs he unemploymen rae negaively, he negaive sign for he coefficiens of he growh rae of labour supply is in conras o he expecaions. The negaive sign probably reflecs migraion rends owards economically prosperous disrics wih low unemploymen raes. As an imporan aim of he paper is o analyse regional dispariies in he unemploymen rae and he mechanisms a work ha generae hem, we addiionally grouped he 326 disrics ino 3 equally sized caegories wih respec o he unemploymen rae in 1992: low, middle and high unemploymen regions. Low unemploymen regions are disrics wih an unemploymen rae below 5.19% (109 disrics), middle unemploymen regions had an unemploymen rae beween 5.19% and 7.50% (109 disrics) and high unemploymen regions are disrics wih an unemploymen rae higher han 7.50% (108 disrics). The spaial disribuion of low, middle and high unemploymen regions in can be seen in Figure 1. The figure shows ha he disribuion of low, middle and high unemploymen regions in he year 1992 clearly forms clusers: low unemploymen regions can be found primarily in souhern Germany, middle unemploymen regions in he cenral norhern par and high unemploymen regions on he boarders o Eas Germany, France, Denmark and he Neherlands. IAB-Discussion Paper 19/

16 Figure 1 Disribuion of low, middle and high unemploymen disrics The esimaion of equaion (8) and all furher calculaions were also carried ou separaely for high, middle and low unemploymen regions. The esimaion resuls of equaion (8) for hese subses can be found in he Appendix. Acual and fied values of he unemploymen rae according o he esimaed models for all, low, middle and high unemploymen regions in he period can be seen in Figure 2. Generally, he developmen of he unemploymen rae was very similar for all disrics and he differen subses during he observaion period. The unemploymen rae in Wes German disrics increased from , decreased aferwards unil 2001 and rose again in he period Thus, he observaion period covers one economic cycle wih a boom period from and a recession period from The levels for he differen subses were insead differen. Low unemploymen regions flucuaed around a mean of abou 7%, middle unemploymen regions around 10% and high unemploymen regions around 15%. As can be seen in Figure 2, all esimaed models are able o capure he specific ime pah ha he unemploymen rae underwen during his period. IAB-Discussion Paper 19/

17 Figure 2 Original and fied unemploymen rae of all, low, middle and high unemploymen regions in he period In he following secion, he esimaion resuls are used o derive adjusmen dynamics of he unemploymen rae in he afermah of a labour demand shock. For he dependen variables we calculae he adjusmen pahs afer a one-off uni shock in labour demand, i.e. he employmen growh rae. We measure he effec ha changes in each exogenous variable had on he unemploymen rae separaely for he boom years and he recession period of Labour demand shocks In Secion 2 we argued, ha labor marke shocks are fel hrough ime. This means ha he effec of a shock in one single year is ranspored hrough differen lagged adjusmen mechanisms and is herefore also presen in he following years. The quesion hen is, how large he effec of a labour demand shock is firs, in he afermah of he shock and second, in oal. In he CRT, he adjusmen process afer he occurrence of a shock in period is called unemploymen persisence. I is defined as R + j j= 1 σ. (10) where σ measures he effec of unemploymen persisence for all periods + j, j 1 following he shock. Then, he series R + j denoes he impulse response funcion (IRF) of unemploymen. In oher words, unemploymen persisence is simply he sum of all deviaions from he iniial unemploymen rae a ime ha are due o he shock. I covers he reacions in he sysem afer he occurrence of a IAB-Discussion Paper 19/

18 shock in period. Economically, σ can be hough as addiional unemployed in he labour marke afer a shock, rying o find a new job. The duraion unil hese unemployed are back in employmen may las several years. If equaion (10) is dynamically sable 2, he shock dies ou gradually and converges owards is iniial level. Then, unemploymen persisence equals a finie quaniy. If unemploymen insead remains on a higher (lower) han he iniial value, unemploymen displays hyseresis and σ =. In his case he shock leaves a permanen effec in he unemploymen rae, meaning ha no all unemployed ge a new job again. The oal effec of he shock can hen be characerized by he sum of he iniial response (he shock iself) and he unemploymen persisence σ. The immediae R response of unemploymen can be inerpreed as shor-run elasiciy, see Bande/ Karanassou (2007). Then, he oal effec equals R = + σ R+ j=0 j (11) and can be characerized as long-run elasiciy of unemploymen wih respec o he shock. Mahemaically, our measure of unemploymen persisence can be calculaed from he above esimaion resuls by solving he sysem of equaions represened in equaion (8) for he unemploymen rae as oulined in Bande/Karanassou (2007). The reduced form unemploymen rae hen equals a polynomial equaion of he form n w l ρ ( L ) u i = b( L + c( L )z + θ ( L ) ε + θ ( L ) ε + θ ( L ε u i )x i d i w i s ) where is he regional unemploymen rae, is a 3x1 vecor of regional exoge- n w nous variables and he 4x1 vecor z conains he naional variables.,, and l ε i are he error erms (residuals) and can be calculaed from he labour demand / supply, wage seing and unemploymen equaions. i x i i ε i ε i (12) ρ ( L ), b ( L ), c ( L ), θ ( L ), θ w( L ) and θ l ( L ) are funcions of he esimaed coefficiens given in Table 4. To visualize he effec of a labour demand shock on he unemploymen rae, we calculae he according impulse response funcion for all as well as for low, middle and high unemploymen regions separaely. According o Bande/Karanassou (2007) and Decressin/Faás (1995) we consruc he shock as one-off uni shock in labour demand. The impulse response funcions for he shocks are displayed in Figure 3: d 2 The coefficiens of he lagged unemploymen rae are lower han uniy. IAB-Discussion Paper 19/

19 Figure 3 Unemploymen responses of all, low, middle and high unemploymen regions o a shock in labour demand The response of he unemploymen rae o a shock in labour demand is very similar in all differen seings: he shocks do no lead o a permanen increase of he unemploymen rae. They decrease rapidly afer he occurrence of he shock and are compleely absorbed by he sysem wihin only wo years. In he year of he shock, he effec varies beween 16 percenage poins (low unemploymen regions) and 27 percenage poins (middle unemploymen regions). In he esimaion wih all disrics, he effec amouns o 22 percenage poins. These values are comparable o he esimaion resuls of Kunz (2009), who esimaes a model in he line of Blanchard/Kaz (1992) for Wes German disrics in he period He finds ha he unemploymen rae reurns o is iniial value already in he period afer a labour demand shock and decreases he unemploymen rae by 13% in he year of he shock. Thus, a labour demand shock does no leave permanen effecs on he unemploymen rae and converges rapidly owards is iniial level. Nex, we calculae shor-run elasiciy, persisence and long-run elasiciy of a posiive labour demand shock wih respec o he unemploymen rae according o equaions (10) and (11). The resuls are displayed in Table 5: Table 5 Persisence of a labour demand shock in all, low, middle and high unemploymen regions Regions All Low Middle High Shor-run elasiciy ( R0 ) Persisence (σ ) Long-run-elasiciy ( R ) IAB-Discussion Paper 19/

20 According o he esimaions, a labour demand shock displays a long-run elasiciy lower han uniy in all combinaions. This resul shows ha he unemploymen rae is underresponsive in he sense ha he iniial labour demand shock is no fully refleced in he unemploymen rae also in he long-run. Approximaely half of he shock is fel in he iniial period, whereas he res is fel in fuure periods mainly in he period afer he shock. Thus, labour demand shocks are no characerised by subsanial unemploymen persisence. The differences beween low, middle and high unemploymen regions are only lile. The sronges long-run elasiciy is no esimaed for high, bu for middle unemploymen regions. As expeced, high unemploymen regions show he lowes reacion o a posiive labour demand shock. As hey addiionally show he highes persisence, a posiive labour demand shock displays lower effecs in he iniial bu sronger effecs in fuure periods compared o low and middle unemploymen regions. Thus, high unemploymen regions are no hi as severe as low and middle unemploymen regions iniially, bu he shock is more persisen in fuure periods. The mos imporan findings from secions 5.1 and 5.2 are he following: The simulaneous labour marke model esimaed for all Wes German disrics as well as for low, middle and high unemploymen disrics separaely shows a good fi of he movemens in he unemploymen rae for he period The coefficiens of he exogenous variables in he models are prevailingly compaible o he expeced signs and he resuls are quie similar across he differen seings. The unemploymen rae is underresponsive o a labour demand shock in he long-run as no he full size of he shock is refleced in he unemploymen rae. The shock does no leave permanen effecs on he unemploymen rae, i.e. he unemploymen rae does no exhibi hyseresis effecs and disappears compleely wihin only 2 years. Approximaely half of he oal unemploymen response is fel in he conemporaneous period, he res of he effec in fuure periods mainly in he period afer he shock. The long-run elasiciy of he shock is quie similar across low, middle and high unemploymen regions. As expeced, high unemploymen regions are no hi as severe as low and middle unemploymen regions iniially, bu he shock is more persisen in fuure periods. 5.3 Exogenous shocks In he previous secion he focus was o explore he adjusmen of he unemploymen rae afer he occurrence of a labour demand shock, i.e he shock in an endogenous variable of he sysem. In his secion insead, he focus is on shocks in he exogenous variables. More precisely, we measure he impac of each exogenous variable in he absence of all oher shocks by he direc and indirec effecs on he unemploymen rae over ime. To observe his, a concep o measure he oal effec of acual exogenous shocks has o be applied o be able o separae he effecs of shocks from differen variables. This concep is developed similar o he concep already demonsraed for he IAB-Discussion Paper 19/

21 measuremen of unemploymen persisence and is applied for each exogenous variable in each period. The oal effec of all shocks of he respecive variable, T = 1 R ~, can be measured by he sum over all is shocks in each period and is hen 3 given by T = 1 T R ~ = R = 1 j= 1 j (13) where R j denoes he response of unemploymen in period o he jh shock. Thus, T = 1 R ~ is jus he sum of all direc and indirec effecs ha each shock of he respecive variable has on he unemploymen rae. If equals zero hen he respecive variable has no influence on he unemploymen rae. T = 1 R ~ As he influence of he exogenous variables migh be differen in boom and recession periods, we calculae he impac on he unemploymen rae for each variable separaely for he boom period and for he recession period Addiionally, figures are again calculaed for all as well as for low, middle and high unemploymen regions. The resuls for each exogenous variable and he summarized effec of regional (reg ), naional (na ) and all (all ) exogenous variables can be seen in Table 6: Table 6 Effecs of exogenous shocks for boom and recession years Region inv in oil cons gdp prod pop reg na all Boom period All Low Middle High Recession period All Low Middle High In he boom period , he exogenous variables under consideraion lowered he unemploymen rae by 0.56 percenage poins. As he acual (fied) unemploymen rae decreased by 2.66 (1.04) percenage poins during his period, his 3 For a deailed descripion of he measure for he oal effecs of he shocks confer Bande/ Karanassou (2007) IAB-Discussion Paper 19/

22 means ha he exogenous variables capure roughly 21% (54%) of he unemploymen developmen. In he recession period of he exogenous variables raised he unemploymen level by 1.31 percenage poins, alhough he acual (fied) unemploymen rae increased only by 2.29 (1.75) percenage poins. This means ha he exogenous variables accoun for an even higher share of 57% (75%) in he acual (fied) unemploymen developmen during he recession period. The differen regional seings show only lile differences: high unemploymen regions have no profied as much as low and middle unemploymen regions during he boom period, bu hey also have no suffered as much during he recession period. The differeniaion beween regional and naional exogenous variables clearly shows ha he effecs of naional variables were much higher han hose of regional variables during boh, he boom as well as he recession years. This is a possible explanaion for he fac ha regions end o parallel he naional unemploymen rae, see Figure 3, which is also saisically saed in he srong cyclical sensiiviy of regions and disrics in Kunz (2009). In he boom period, he unemploymen rae of low unemploymen regions decreased by 0.62 percenage poins hrough he developmen of naional exogenous facors which is wice he effec esimaed for high unemploymen regions. In he recession period, high unemploymen regions again denoed he lowes upward shif of 1.16 percenage poins, bu he effec on low unemploymen regions was only lile higher (1.23). By conras, he developmen of regional exogenous facors was commuaed for boom and recession years: hey caused an upward shif in he unemploymen rae of low unemploymen regions and lowered he unemploymen rae of high unemploymen regions. These observaions sugges he following conclusion: in conras o high unemploymen regions, low unemploymen regions profied disproporional of naional developmens in he boom period bu were hi only approximaely o he same exen during recession periods. Regional facors insead always lead o an upward pressure in he unemploymen rae of low unemploymen regions and o a reducion in he unemploymen rae of high unemploymen regions. Pu differenly: while he developmen of regional facors would generae a regional convergence process, naional facors end o impede his developmen. As he influence of naional facors is much sronger, a regional convergence process does no occur, see also Kunz (2009). The sronges influence on he unemploymen rae had he level of invesmen. On average, is developmen lowered he unemploymen rae by 0.58 percenage poins during he boom period and raised he unemploymen rae by exacly wice his amoun (1.06 percenage poins) during he recession years. The ineres rae also caused a decrease of he unemploymen rae of 0.15 percenage poins on average during he boom years and caused an upward pressure of 0.18 in he recession period. For boh variables, he effecs for he differen regional seings (i.e. low, middle and high unemploymen regions) were no oo disinc, bu especially in he boom period, low unemploymen regions always performed beer han high unemploymen regions. The developmen of he public consumpion expendiures insead had considerable upward effecs on he unemploymen rae from bu almos IAB-Discussion Paper 19/

23 no effecs from Addiionally, hese pushing effecs were only weak for low unemploymen regions (0.09 percenage poins) bu amouned o 0.26 percenage poins for high unemploymen regions. Changes in he oil prices also displayed moderae posiive effecs in boom and recession years. Principally, oil prices pushed he unemploymen rae sronger in high unemploymen regions compared o low unemploymen regions, bu he differences beween were no as disinc as for pubic consumpion expendiures. To sum up, during he years , all effecs of he naional variables conribued o a beer unemploymen developmen in low han in high unemploymen regions. This means ha he developmen of all naional variables especially he public consumpion expendiure behaviour were responsible for raising spaial differences beween low and high unemploymen raes in he boom period Among he regional variables, gdp and he populaion developmen had moderae effecs on he unemploymen rae. The effecs of changes in real produciviy insead were almos zero. On average, gdp movemens lowered he unemploymen rae by 0.10 percenage poins during he boom period and lead o an increase of 0.02 percenage poins from The corresponding effecs of he populaion developmen amouned o 0.04 in boom and percenage poins in recession years. Ineresingly and in conras o aggregae variables boh regional variables conribued o a beer unemploymen developmen in high han in low unemploymen regions. This implies ha he developmen of he considered regional variables seadily leads o decreasing spaial differences beween low and high unemploymen raes. As seen above, regional variables did no have as large effecs as naional variables on he aggregae unemploymen rae. Bu, as he developmen of hese variables differs among each regional uni, he oal effecs are differen for each disric. As we have esimaed equaion (8) separaely for low, middle and high unemploymen regions, he coefficiens also vary depending on he affiliaion o he respecive unemploymen group. Therefore, he regional effecs vary because of he differen developmen of he respecive exogenous variable as well as because of differen coefficiens and show considerable variaion across disrics. The oal effec of acual shocks of regional variables are visualised in maps separaely for he boom and recession years. As he effecs of produciviy shocks vary only wihin a span of o 0.03, we do no show a separae map for produciviy. The effecs of gdp and populaion shocks as well as for all regional shocks during he period are displayed in Figure 4. IAB-Discussion Paper 19/

24 Figure 4 Toal effec of regional variables a disric level ( ) In many disrics, he boom period was characerized by negaive gdp shocks, i.e. disrics could profi of a posiive gdp developmen lowering heir unemploymen rae. Bu, in mos of hem (225 disrics), he effec was in a range beween 0 and -0.2 percenage poins. Only 52 disrics could denoe a decrease of more han 0.2 percenage poins. Disrics wih he highes negaive effecs were mainly former high unemploymen areas siuaed in Bavaria and Lower-Saxony. By far he sronges negaive effec on he unemploymen rae was measured in he ciy disric Wolfsburg (Lower-Saxony), where an increase in real gdp by 52.8% lowered he unemploymen rae by 1.49 percenage poins. Despie a marginal increase of he gdp of 0.17%, he ciy disric Leverkusen (Norh-Rhine-Wesphalia) had o denoe he highes rise of he unemploymen rae by 0.41 percenage poins. Changes in he populaion growh rae had posiive effecs in nearly ¾ of all disrics. The range of he oal effec varied beween 0.30 in Rasa (Baden-Würemberg) o 0.57 percenage poins in Erding (Bavaria). Mos cenral and souhern Bavarian disrics as well as disrics siuaed in Lower-Saxony had o manage wih an upward pressure hrough populaion gains. In many ciy disrics as well as in he region of he densely populaed Ruhr-Area (Norh-Rhine-Wesphalia) he unemploymen rae was insead relieved by populaion losses. The regional disribuion of he oal effec of all regional variables (including he effecs of real produciviy) obviously follows he paern already found for he populaion developmen. The overall loser and he overall winner disrics hereby ofen show effecs wih he same sign for all exogenous variables. Winner disrics are predominanly disrics ha denoed high unemploymen in 1992, loser disrics had predominanly low unemploymen raes. This resul confirms he observaion ha regional variables end o suppor a convergence process. Again, he ciy disric of Wolfsburg (Lower-Saxony) had he sronges negaive effec of 1.63 percenage poins. As already seen above, he negaive effec in Wolfsburg is driven by more IAB-Discussion Paper 19/