Labor Demand on a Tight Leash

Using detailed information on vacancies and job seekers, the authors study the effect of labor market tightness on labor demand for the near-universe of German firms. To this end, novel Bartik instruments are constructed that combine firms’ predetermined employment shares with nationwide shifts at the occupational level. The results show that tightness significantly reduces firms’ labor demand, implying that the observed doubling in tightness between 2012 and 2019 reduced employment by 5%. At the aggregate level, the negative tightness effect creates search externalities, which reduce the own-wage elasticity of labor demand from −0.7 to −0.5 through reallocation of workers between firms. To guide the analysis, the authors embed elements of the canonical search-and-matching model into a labor demand equation, while allowing vacancy posting costs to increase in tight markets. Through the lens of this model, the pre-match component of hiring costs amounts to 16–24% of annual wage payments.