Journal of Monetary Economics 16 (1985) 309-327. North-Holland
INDIVISIBLE LABOR AND THE BUSINESS CYCLE
Gary D. HANSEN *
University of California, Santa Barbara, CA 93106, USA
A growth model with shocks to technology is studied. Labor is indivisible, so all variability in hours worked is due to fluctuations in the number employed. We find that, unlike previous equilibrium models of the business cycle, this economy displays large fluctuations in hours worked and relatively small fluctuations in productivity. This finding is independent of individuals’ willingness to substitute leisure across time. This and other findings are the result of studying and comparing summary statistics describing this economy, an economy with divisible labor, and post-war U. S. time series.
Equilibrium theories of the business cycle, such as Kydland and Prescott (1982) or Lucas (1977), have been criticized for failing to account for some important labor market phenomena. These include the existence of unemployed workers, fluctuations in the rate of unemployment, and the observation that fluctuations in hours worked are large relative to productivity fluctuations. Equilibrium models have also been criticized for depending too heavily on the willingness of individuals to substitute leisure across time in response to wage or interest rate changes when accounting for the last observation. This criticism is based at least partially on the fact that micro studies using panel data on hours worked by individuals have not detected the intertemporal substitution necessary to explain the large aggregate fluctuations in hours worked [see Ashenfelter (1984)].
In this paper, a simple one-sector stochastic growth model with shocks to technology is constructed in which there is high variability in the number employed and total hours worked even though individuals are relatively unwilling to substitute leisure across time. The model differs from similar models, such as Kydland and Prescott (1982), in that a non-convexity (indivisible labor) is introduced. Indivisible labor is modeled by assuming that individ-
* This paper is part of my doctoral dissertation written while a student at the University of Minnesota. I have benefited from conversations with many people including Robert King, Thomas Sargent, Christopher Sims, Neil Wallace, Sumru Altug, Patrick Kehoe, Ramon Marimon, Ian Bain, and Rody Manuelli. I owe my greatest debt, however, to my advisor, Edward Prescott. I wish to also acknowledge the Federal Reserve Bank of Minneapolis which has provided support for this research. All errors, of course, are mine.
0304-3923/85/$3.30 © 1985, Elsevier Science Publishers B. V. (North-Holland)