Heterogeneity and Unemployment Dynamics

Many previous articles have studied the contribution of inflows and outflows to the cyclical variation in unemployment, but ignored the critical role of unobserved heterogeneity across workers. This article develops new estimates of unemployment inflows and outflows that allow for unobserved heterogeneity as well as direct effects of unemployment duration on unemployment-exit probabilities. With this approach, we can measure the contribution of different shocks to the short-run, medium-run, and long-run variance of unemployment as well as to specific historical episodes. We conclude that changes in the composition of new inflows into unemployment are the most important factor in economic recessions.