Aggregate Implications of Financial Frictions for Unemployment

Abstract

The Great Recession has witnessed not only a marked disruption in the credit markets and a sharp increase of capital unemployment but also a severe deterioration of the matching efficiency in the labor market, as evidenced by the historically high unemployment rate and a significant outward shift of the Beveridge curve. Motivated by these facts, I developed a tractable dynamic general-equilibrium model to show that financial frictions can manifest themselves as changes in the matching efficiency in the labor market. I used a calibrated version of the model to show quantitatively that the credit crunch during the financial crisis was a key driving force behind the outward shift of the Beveridge curve and financial frictions can explain around 40% of unemployment rate over business cycles.