WORKING PAPER SERIES BUSINESS CYCLES AND HOUSEHOLD FORMATION : THE MICRO VS THE MACRO LABOR ELASTICITY

We provide new evidence on the the cyclical behavior of household size in the United States from 1979 to 2010. During economic downturns, people live in larger households. This is mostly, but not entirely, driven by young people moving into or delaying departure from the parental home. We assess the importance of these cyclical movements for aggregate labor supply by building a model of endogenous household formation within a real business cycle structure. We use the model to measure how much more volatile are hours due to two mechanisms: (i) the presence of a large group of mostly young individuals with non-traditional living arrangements; and (ii) the possibility for these individuals to change their living situation in response to aggregate conditions. Our exercise assumes that older people living in stable households have a Frisch elasticity that is consistent with the micro evidence that is based on such people. The inclusion of people living in unstable households yields an implied aggregate, or macro, Frisch elasticity that is around 45% larger than the assumed micro elasticity. Sebastian Dyrda University of Minnesota Department of Economics 4-101 Hanson Hall 1925 Fourth Street South Minneapolis, MN 55455 and Federal Reserve Bank of Minneapolis dyrda020@umn.edu Greg Kaplan Department of Economics University of Pennsylvania 160 McNeil Building 3718 Locust Walk Philadelphia, PA, 19104 P: +1 215 898 1875 gkaplan@sas.upenn.edu José-Víctor Ríos-Rull University of Minnesota Department of Economics 4-101 Hanson Hall (off 4-179) 1925 Fourth Street South Minneapolis, MN 55455 and NBER vr0j@umn.edu