Tenure, business cycle and the wage-setting process

We analyze the interaction between job tenure and external labor market conditions in wage determination. First, we introduce a model that combines job matching with business-cycle effects. As the employment relationship progresses, the worker appropriates a portion of the value of the match-specific human capital she accumulates, gradually becoming shielded from the cyclical variations in external labor market conditions: the employment relationship is progressively “internalized”. Then, we present empirical evidence supporting this prediction: the elasticity of wages to the unemployment rate decreases with tenure. This finding is robust to different specifications that allow for job heterogeneity, and it contributes to the interpretation of recent evidence of changes in the effect of the business cycle on wages.