Evaluation of the Australian Wage Subsidy Special Youth ...

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The labour demand in a period then results in
(1) H=f(V , cU) with (f 1 , f 2 >0)
Where H is the total number of unemployed hired in a given period, V is the number of
vacancies, U the number of unemployed, f is a function and f 1 , f 2 are the first derivatives,
and c is a weight that is the average employability of all unemployed people, with c i the
employability of an individual. It is assumed that log prices (p) are a mark-up on
expected log wages (w e ), giving a simple formulation of
(2) p – w e = β 0
Log wages are also assumed to be mark-up on expected log prices (p e ), with the
mark-up affected by inflationary pressures indicated by (ø) so that
(3) w - p e = y 0 + ø
Substituting prices for expected prices from equation 2, assuming inflation is stable:
(4) w - w e = β 0 + y 0 + ø
In this model a random walk for price inflation means inflation is stable when wages are
equal to expected wages (w = w e ) .
The model is furthered by suggesting that evidence indicates that inflationary pressure
increases with the chances of finding work for an unemployed person of given
employability (Layard (1997): 340). Employability is then introduced via the probability
of finding work of an unemployed person of a given employability (H/cU), in place of ø :
(5) w - w e = β 0 + y 0 + y 1 (H/cU)
The target real wage increases with the rate the unemployed find employment. Assuming
unemployment is constant, in equilibrium, so that hires (H) equal separations (sN), where
s is the separation rate, and N is employment, then wages equal expected wages and the
real wage depends on
(6) w = w e = β 0 + y 0 + y 1 (sN/cU)
Thus Layard concludes that for a given inflation path, unemployment is inversely
proportional to average employability of the unemployed. It is then assumed that there