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In economics, search and matching theory is a mathematical framework attempting to describe the formation of mutually beneficial relationships over time. It is closely related to stable matching theory.
Search and matching theory has been especially influential in labor economics, where it has been used to describe the formation of new jobs. Search and matching theory evolved from an earlier framework called 'search theory'. Where search theory studies the microeconomic decision of an individual searcher, search and matching theory studies the macroeconomic outcome when one or more types of searchers interact.[ citation needed ] It offers a way of modeling markets in which frictions prevent instantaneous adjustments of the level of economic activity. Among other applications, it has been used as a framework for studying frictional unemployment.
One of the founders of search and matching theory is Dale T. Mortensen of Northwestern University. A textbook treatment of the matching approach to labor markets is Christopher A. Pissarides' book Equilibrium Unemployment Theory. [1] Mortensen and Pissarides, together with Peter A. Diamond, were awarded the 2010 Nobel Prize in Economics for 'fundamental contributions to search and matching theory'. [2]
A matching function is a mathematical relationship that describes the formation of new relationships (also called 'matches') from unmatched agents of the appropriate types. For example, in the context of job formation, matching functions are sometimes assumed to have the following 'Cobb–Douglas' form:
where , , and are positive constants. In this equation, represents the number of unemployed job seekers in the economy at a given time , and is the number of vacant jobs firms are trying to fill. The number of new relationships (matches) created (per unit of time) is given by .
A matching function is in general analogous to a production function. However, whereas a production function usually represents the production of goods and services from inputs like labor and capital, a matching function represents the formation of new relationships from the pools of available unmatched individuals. Estimates of the labor market matching function suggest that it has constant returns to scale, that is, . [3]
If the fraction of jobs that separate (due to firing, quits, and so forth) from one period to the next is , then to calculate the change in employment from one period to the next we must add the formation of new matches and subtract off the separation of old matches. A period may be treated as a week, a month, a quarter, or some other convenient period of time, depending on the data under consideration. (For simplicity, we are ignoring the entry of new workers into the labor force, and the death or retirement of old workers, but these issues can be accounted for as well.) Suppose we write the number of workers employed in period as , where is the labor force in period . Then given the matching function described above, the dynamics of employment over time would be given by
For simplicity, many studies treat as a fixed constant. But the fraction of workers separating per period of time can be determined endogenously if we assume that the value of being matched varies over time for each worker-firm pair (due, for example, to changes in productivity). [4]
Matching theory has been applied in many economic contexts, including:
Matching theory has been widely accepted as one of the best available descriptions of the frictions in the labor market, but some economists have recently questioned its quantitative accuracy. While unemployment exhibits large fluctuations over the business cycle, Robert Shimer has demonstrated that standard versions of matching models predict much smaller fluctuations in unemployment. [7]
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Dale Thomas Mortensen was an American economist, a professor at Northwestern University, and a winner of the Nobel Memorial Prize in Economic Sciences.
Sir Christopher Antoniou Pissarides is a Cypriot economist. He is Regius Professor of Economics at the London School of Economics, and Professor of European Studies at the University of Cyprus. His research focuses on macroeconomics, labour economics, economic growth, and economic policy. In 2010, along with Peter Diamond and Dale Mortensen, he received the Nobel Prize in Economics, "for their analysis of markets with theory of search frictions."
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Peter Arthur Diamond is an American economist known for his analysis of U.S. Social Security policy and his work as an advisor to the Advisory Council on Social Security in the late 1980s and 1990s. He was awarded the Nobel Memorial Prize in Economic Sciences in 2010, along with Dale T. Mortensen and Christopher A. Pissarides. He is an Institute Professor at the Massachusetts Institute of Technology. On June 6, 2011, he withdrew his nomination to serve on the Federal Reserve's board of governors, citing intractable Republican opposition for 14 months.
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Étienne Wasmer is a French professor and economist currently holding a Professorship at New York University in Abu Dhabi. Wasmer mainly focuses on the fields of labor economics, job search theory, discrimination and human capital. He teaches microeconomics and labor economics.
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