Labor Demand and the Structure of Adjustment Costs.

This study examines the costs firms face in adjusting labor demand to exogenous shocks. Evidence on monthly plant-level data shows that adjustment proceeds in jumps: employment is unchanged in response to small shocks, but moves instantaneously to a new equilibrium if the shocks are large. Results in the large literature that assumes smooth adjustment are due to aggregation of this nonlinear relation. The finding has implications for cyclical changes in productivity; for severance pay, layoff, and plant-closing restrictions; and for all other policies that affect the cost of adjusting employment. Copyright 1989 by American Economic Association.