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Abdou Ndiaye, Meghana Gaur, John R. Grigsby, and Jonathon Hazell's "Bonus Question: Does Flexible Incentive Pay Dampen Unemployment Dynamics?"

October 5, 2023

We introduce dynamic incentive contracts into a model of unemployment dynamics and present three results. First, wage cyclicality from incentives does not dampen unemployment dynamics: the response of unemployment to shocks is first-order equivalent in an economy with flexible incentive pay and without bargaining, vis-á-vis an economy with rigid wages. Second, wage cyclicality from bargaining dampens unemployment dynamics through the standard mechanism. Third, our calibrated model suggests 46% of wage cyclicality in the data arises from incentives. A standard model without incentives calibrated to weakly procyclical wages, matches unemployment dynamics in our incentive pay model calibrated to strongly procyclical wages.

Abdou Ndiaye is an Assistant Professor of Economics at NYU Stern.

Read the full paper here.