The Limited Influence of Unemployment on the Wage Bargain

When a job-seeker and an employer meet, find a prospective joint surplus, and bargain over the wage, conditions in the outside labor market, including especially unemployment, may have limited influence. The job-seeker’s only credible threat during bargaining is to hold out for a better deal, not to terminate bargaining and resume search at other employers. Similarly, the employer’s threat is to delay bargaining, not to terminate it. Consequently, the outcome of the bargain depends on the relative costs of delays to the parties, rather than on the payoffs that result from exiting negotiations. Modelling bargaining in this way makes wages less responsive to unemployment. A stochastic model of the labor market with credible bargaining and reasonable parameter values yields larger employment fluctuations than does the standard Mortensen-Pissarides model. ∗We are grateful to Daron Acemoglu, John Kennan, Dan Quint, Randy Wright, four referees, and the editor fo