A Two-Country, Two-Sector Model of International Trade with Search and Matching Frictions in Labor Markets

Introduction

In this article, we develop a two-country, two-sector model of international trade with search and matching frictions in labor markets. We show that these frictions can have a significant impact on welfare and trade flows. In particular, we find that regulations on wages, benefits, hours worked, and firing can hinder firms from hiring and expanding in international markets.

Model

Our model is a two-country, two-sector general equilibrium model with search and matching frictions in labor markets. The two sectors are the traded sector and the non-traded sector. The traded sector produces goods that can be exported or imported, while the non-traded sector produces goods that cannot be traded internationally.

In each country, there is a representative household that consumes goods produced by both sectors and supplies labor to the labor market. The household's preferences are represented by a Cobb-Douglas utility function.

The labor market in each country is characterized by search and matching frictions. Firms must post vacancies to attract workers, and workers must search for jobs. There is a matching technology that determines the probability of a match between a firm and a worker.

The government in each country can implement a variety of labor market regulations. These regulations can include minimum wages, maximum hours worked, firing costs, and other policies that affect the costs and benefits of hiring and firing workers.

Results

We solve the model for the equilibrium wage, employment, and output in each country. We find that labor market frictions can have a significant impact on these outcomes. In particular, we find that:

• Labor market frictions reduce welfare in both countries.
• Labor market frictions reduce trade flows between the two countries.
• Labor market regulations can exacerbate the negative effects of labor market frictions.

Conclusion

Our results suggest that labor market frictions can have a significant impact on welfare and trade flows. In particular, we find that labor market regulations can hinder firms from hiring and expanding in international markets. These findings suggest that policymakers should be cautious about implementing labor market regulations that could have unintended negative consequences for the economy.