Reconsidering the Welfare Costs of BusinessCycles:
Taking Labor Markets Seriously
Master Thesis by Silke Simon
August 11, 2005
Abstract:
The question whether or not business cycle fluctuations lead to welfare losses
is of high political relevance since it implies important recommendations for the
course of economic policy between interventionism and laissez-faire. In contrast to
several other works, I show that in a setting with incomplete labor markets due to
search externalities, the welfare costs of business cycles are substantial. Agents are
willing to give up as much as 13 to 23% of consumption in order to live in an
environment without fluctuations instead of living in an economy with cycles. Thus, high
welfare gains can be generated by counter-cyclical economic policy measures.