The Productivity Puzzle and the Decline of Unions

What explains the sudden vanishing of the procyclicality of productivity in the U.S. during the 1980s? Using cross-sectional evidence from states and industries, this paper argues that lower costs of hiring and firing workers due to rapid de-unionization can help explain the productivity puzzle. Lower cost of changing employment prompts firms to rely less on labour hoarding, thereby making productivity less procyclical. In a model with endogenous worker-effort and costly employment adjustment, allowing the hiring cost to decrease by the same amount as the decline in union density can match almost the entire drop in cyclical productivity correlations.