Hysteresis in the Dynamics of Employment by Activity Sector

Hysteresis, referring to the property of a system whereby some temporary shocks cause permanent effects, has showed to be important to explain the dynamics of aggregate employment. What is not yet addressed properly in the literature is the differentiation of hysteresis effects according to activity sectors. This subject is important in order to understand whether severe recessions, like the one that followed the COVID-19 pandemic with its recognized heterogeneous immediate effects at the sectoral level, have permanent effects, and prospectively for applying adequate stabilizing fiscal and monetary policies, and possibly other specific measures, to prevent excessive market shocks even if they are perceived to be temporary. For this purpose, we apply the play hysteresis model, which describes a dynamic process whereby non-convex adjustment costs create intervals of weak reaction of employment to forcing variables, and spurts in employment in reaction to large or cumulative small labour demand shocks. The model is implemented by means of a switching employment equation. The switching parameter is interpreted as an ‘employment band of inaction’ that summarizes the magnitude of the hysteretic effects. We have found significant hysteresis effects in the employment dynamics across sectors, and these are especially important for industry.