Imperfect mobility of labor across sectors and fiscal transmission

Our paper investigates the impact of government spending shocks on relative sector size and contrasts the effects across countries. Using a panel of sixteen OECD countries over the period 1970-2007, our VAR evidence shows that a rise in government consumption i) increases the share of non tradables in labor and real GDP and lowers the share of tradables, and ii) causes a significant increase in non traded wages relative to traded wages. While the first finding reveals that the non traded sector is more intensive in the government spending shock and experiences a labor inflow that increases its relative size, the second finding suggests the presence of labor mobility costs preventing wage equalization across sectors. Turning to cross-country differences, empirically we detect a positive relationship between the magnitude of the impact responses of sectoral output shares and the degree of labor mobility across sectors. To account for our evidence, we develop an open economy version of the neoclassical model with tradables and non tradables. Our quantitative analysis shows that the model is successful in replicating the responses of sectoral output shares to a fiscal shock, as long as we allow for a difficulty in reallocating labor across sectors along with adjustment costs to capital accumulation. Finally, calibrating the model to country-specific data, we are able to generate a cross-country relationship between the degree of labor mobility and the responses of sectoral output shares which is similar to that in the data.