Department of Economics

University of Pennsylvania

Fall 2006





Search frictions have long been recognized as a reason for the existence of labor and capital unemployment. Search frictions are also a reason for the formation of long-term relationships between employers and employees, borrowers and lenders or buyers and sellers of intermediate goods. In the first part of this advanced course, we are going to review and discuss the main existing theories of search frictions: imperfect information about individual or match-specific characteristic, coordination failures, stock-flow models. The second part of the course reviews the positive and normative macroeconomic implications of search frictions: the trend and cyclical behavior of unemployment and vacancies, the optimal degree of employment protection and the properties of the optimal unemployment insurance scheme. The last part of the course studies the dynamics of terms-of-trade in long-term relationships under both the assumptions of perfect and asymmetric information (hidden actions and hidden states). From the technical point of view, the course will provide you with the tool-box necessary to understand recent contributions in search and dynamic contracting and to properly write your own dissertation. In particular, we will analyze non-cooperative bargaining games under perfect and asymmetric information, multi-agent bargaining games and long-term risk-sharing and incentive contracts.


Prerequisites. The course is intended for second, third and fourth year students who have an interest in either search theory or macro-labor. Within the curriculum, the course is designed as a strong complement to Randy Wright’s advanced course on monetary theory and Ken Burdett’s class on micro-labor.    


Grades. Your grade will be determined in equal measure by an in-class presentation of a recent paper and a final take-home exam. The class presentation is intended to afford you some practice on reporting findings to an audience of fellow economists (an extremely important part of our profession). The final exam is intended to give you an incentive to go over the material covered in class with care.


Office hours and contact information. Since I’m not teaching any undergraduate class this semester, I will not have regular office hours. Instead, I am available to graduate students on an appointment basis or through email. My office is at McNeil Building 467 (215-898-5170) and my email is




Reading List



(1) Foundations of search frictions


a) Time-consuming sampling and unobservable prices

§   McCall, J. 1970. Economics of Information and Job Search. Quarterly Journal of Economics 84 (1): 113–126.

§   Mortensen, D. 1970. Job Search, the Duration of Unemployment and the Phillips Curve. American Economic Review 60: 847--62.

§   Burdett, K. 1978. Employee Search and Quits. American Economic Review.

§   Diamond, P. 1971. A Model of Price Adjustment. Journal of Economic Theory 3: 217--27.

§   Burdett, K.,and D. Mortensen. 1998. Wage Differentials, Employer Size and Unemployment. International Economic Review.

§   Albrecht, J.W. and B. Axell. 1984. An Equilibrium Model of Search Unemployment. Journal of Political Economy, 92, 824-40.


b) Learning about match quality

§   Jovanovic, B. 1979. Job Matching and the Theory of Turnover. Journal of Political Economy.

§   Weitzman, M. 1979. Optimal Search for the Best Alternative. Econometrica 47: 641-54.

§   Moscarini, G. 2005. Job Matching and the Wage Distribution. Econometrica. ♠



c) Coordination frictions

§   Montgomery, J. 1991. Equilibrium Wage Dispersion and Interindustry Wage Differentials. Quarterly Journal of Economics 106: 163--79.

§   Burdett, K., S. Shi, and R. Wright. 2001. Pricing and Matching with Frictions. Journal of Political Economy 109: 1060--85.

§   Albrecht, J.W., P.A. Gautier, and S.B. Vroman. 2006. Equilibrium Directed Search with Multiple Applications. Review of Economic Studies. ♠


d) Mismatch

§   Lagos, R. 2000. An Alternative Approach to Search Frictions. Journal of Political Economy 108: 851--73. ♠

§   Shimer, R. 2005. Mismatch. Mimeo, University of Chicago. ♠

§   Coles, M., and E. Smith. 1998. Marketplaces and Matching. International Economic Review 39 (1): 239–254. ♠

§   Lucas, R. and E. Prescott. 1974. Equilibrium Search and Unemployment. Journal of Economic Theory 7 (2): 188-209.


e) Endogenous information structure

§   Menzio, G. 2005. A Cheap-Talk Theory of Random and Directed Search. Mimeo, University of Pennsylvania.


(2) Matching Function and Bargaining


a) Basic matching and bargaining model

§   Pissarides, C. 1985. Short-Run Equilibrium Dynamics of Unemployment, Vacancies, and Real Wages. The American Economic Review 75 (4): 676–690.

§   Petrongolo, B., and C. Pissarides. 2001. Looking into the Black Box: A Survey of the Matching Function. Journal of Economic Literature 39: 390--431.


b) Nash axiomatic approach

§   Muthoo, A. 1999. Bargaining Theory with Applications. Cambridge MA: Cambridge University Press.


c) Bargaining games of perfect information

§   Rubinstein, A. 1982. Perfect Equilibrium in a Bargaining Model. Econometrica, 50: 97--110.

§   Binmore, K., A. Rubinstein, and A. Wolinsky. 1986. The Nash Bargaining Solution in Economic Modeling. Rand Journal of Economics 17: 176--88.



d) Bargaining games of asymmetric information

§   Fudenberg, D., D. Levine, and J. Tirole. 1983. Infinite-horizon models of bargaining with one-sided incomplete information. In Bargaining with Incomplete Information, ed. by A. Roth, Cambridge University Press, Cambridge.

§   Gul, F., H. Sonnenschein. 1988. On Delay in Bargaining with One-Sided Uncertainty. Econometrica 56: 601--11.


e) Multi-agent bargaining games

§   Stole, L., and J. Zwiebel. 1996a. Intra-firm Bargaining under Non-binding Contracts. Review of Economic Studies 63: 375--410.




(3)  Search frictions and the aggregate labor market


a) The MP model

§   Mortensen, D. and C. Pissarides. 1999. New Developments in Models of Search in the Labor Market. In Handbook of Labor Economics, edited by O. Ashenfelter and D. Card. Amsterdam: Elsevier.

§   Hosios, A. 1990. On the Efficiency of Matching and Related Models of Unemployment. Review of Economic Studies.

§   Moen, E. 1997. Competitive Search Equilibrium. Journal of Political Economy 105: 694--723.




b) Employment protection

§   Bentolila, S. and G. Bertola. 1990. Firing Costs and Labour Demand: How Bad is Eurosclerosis? Review of Economic Studies 57: 381-402.

§   Bertola, G., and R. Rogerson. 1997. Institutions and Labour Reallocation. European Economic Review 41: 1147-1171. ♠


c) Unemployment fluctuations 

§   Davis, S. and J. Haltiwanger. 1992. Gross Job Creation, Gross Job Destruction and Employment Reallocation. Quarterly Journal of Economics 107: 819-863.

§   Mortensen, D. and C. Pissarides. 1994. Job Creation and Job Destruction in the Theory of Unemployment. Review of Economic Studies 61(3): 269-300.

§   Barlevy, G. 2002. The Sullying Effect of Recessions. Review of Economic Studies 69: 65—96. ♠

§   Shimer, R. 2005. The Cyclical Behavior of Unemployment and Vacancies. American Economic Review, 95: 25--49.

§   Hall, R. 2005. Employment Efficiency and Sticky Wages: Evidence from Flows in the Labor Market. American Economic Review 87: 397--407.

§   Kennan, J. 2004. Private Information, Wage Bargaining and Employment Fluctuations. Manuscript, University of Wisconsin-Madison.

§   Menzio, G. 2005. High-Frequency Wage Rigidity. Manuscript, Northwestern University.


d) Extensions: money, capital and labor-force participation

§   Berentsen, A., G. Menzio and R. Wright. 2006. Inflation and Unemployment. Mimeo, University of Pennsylvania.  

§   Hornstein, A., P. Krusell and G. Violante. 2006. Frictional Wage Dispersion in Search Models: A Quantitative Assessment. Mimeo, Princeton University.

§   Merz, M. 1995. Search in the Labor Market and the Real Business Cycle. Journal of Monetary Economics 36 (2): 269-300. ♠

§   Nagypál, É. 2005. Worker Reallocation over the Business Cycle: The Importance of Job-to-Job Transitions. Mimeo, Northwestern University.

§   Pries, M. 2004. Persistence of Employment Fluctuations: A Model of Recurring Job Loss. Review of Economic Studies 71 (1): 193-215. ♠

§   Veracierto, M. 2002. On the Cyclical Behavior of Employment, Unemployment, and Labor Force Participation. Federal Reserve Bank of Chicago Working Paper, no. 12. ♠


e) Frictional inequality  

§   Hornstein, A., P. Krusell and G. Violante. 2006. Frictional Wage Dispersion in Search Models: A Quantitative Assessment. Mimeo, Princeton University.

§   Postel-Vinay, F., and J.-M. Robin. 2002. An Equilibrium Job Search Model for Matched Employer-Employee Data. Econometrica. ♠

§   Mortensen, D. 2003. Wage Dispersion. Why Are Similar Workers Paid Differently? MIT Press, Cambridge MA.




(4) Long-term relationships


a) Risk-sharing contracts

§   Thomas, J., and T. Worrall. 1988. Self-Enforcing Wage Contracts. Review of Economic Studies 55: 541--53.

§   Beaudry, P., and J. DiNardo. 1991. The Effect of Implicit Contracts on the Movement of Wages Over the Business Cycle: Evidence from Micro Data. Journal of Political Economy 99: 665--688.

§   Menzio, G., and E. Moen. 2006. Incomplete Self-Enforcing Labor Contracts. Mimeo, University of Pennsylvania.

§   Atkeson, A. and R. Lucas. 1992. On Efficient Distribution with Private Information. Review of Economic Studies 59: 427-53.


b) Dynamic incentive contracts

§   Phelan, C. and R. Townsend. 1991. Computing Multi-period, Information-Constrained Optima. Review of Economic Studies 58: 853-882.

§   Abreu, D., D. Pierce and E. Stacchetti. 1990. Toward a Theory of Discounted Repeated Games with Imperfect Monitoring. Econometrica.




(5) Optimal unemployment insurance


§   Hansen, G. and A. Imrohoroglu. 1992. The Role of Unemployment Insurance in an Economy with Liquidity Constraints and Moral Hazard. Journal of Political Economy 100 (1): 118–42. ♠

§   Hopenhayn, H. and J. Nicolini. 1997. Optimal Unemployment Insurance. Journal of Political Economy 105 (2), 412–438.

§   Acemoglu, D., and R. Shimer. 1999. Efficient Unemployment Insurance. Journal of Political Economy 107: 893--928. ♠

§   Shimer, R. and I. Werning. 2005. Liquidity and Insurance for the Unemployed. Mimeo, University of Chicago. ♠