Cities and Labor Market Dynamics

Labor mobility is widely viewed as the principal adjustment mechanism to local labor market shocks. Empirically, however, migration is infrequent, and population adjustment is slow and varies markedly between locations. This paper proposes and estimates a model of heterogeneous local labor markets "cities" to understand the mechanisms inhibiting labor market dynamics. To jointly study multiple forms of adjustment dynamics, the proposed model is an innovative dynamic spatial equilibrium, with endogenous local prices, heterogeneous locations, and agents subject to adjustment costs; the methodological contribution of this paper is the empirical implementation of such a model. The model is simulated under counterfactual scenarios in which impediments to labor adjustment are relaxed. The main result is that except in the extreme case of no adjustment costs, labor adjustment is limited not by the total amount of migration but its direction over markets. Population elasticity would be significantly greater if migration were less idiosyncratically motivated or if local shocks were not capitalized into housing prices. The implication is that effective local labor market reallocation does not necessarily require high aggregate mobility rates.