Oxford University Press

Two Views of the Geographic Distribution of Unemployment
Author(s): Stephen T. Marston

Source: The Quarterly Journal of Economics, Vol. 100, No. 1 (Feb., 1985), pp. 57-79
Published by: Oxford University Press
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TWO VIEWS OF THE GEOGRAPHIC DISTRIBUTION
OF UNEMPLOYMENT*
STEPHEN T. MARSTON
Editor's note: Stephen Marston's untimely death occurred while he was in the
process of revising this paper for publication in this Journal. A colleague of Pro-
fessor Marston's, Robert Frank, subsequently completed revision of the paper to the
extent that records and data allowed.
This paper investigates the extent to which equilibrium and disequilibrium

explanations can account for unemployment rate differentials between cities. It
shows that shocks that disturb the steady-state relationship among the unem-
ployment rates of metropolitan areas tend to be eliminated by mobility within a
single year. It also shows that high unemployment areas tend to be those with
attractive climates and amenities, high wages, and high unemployment insurance.
It argues that the main effect of government programs that create jobs in high
unemployment areas will be to lure additional job seekers to those areas.
Economic and social barriers may separate local labor mar-

kets. If these barriers restrict mobility severely, then weak labor
demand in one geographic area will raise the unemployment rate
there above its level in areas with stronger labor demand.
On the other hand, if mobility is relatively free between areas,
then strong labor demand elsewhere will lure workers away from
a high unemployment area. Excess labor in the area will vanish
quickly unless workers are compensated in some way that induces
them to remain there voluntarily. Any persistent geographic un-
employment differentials, then, are not evidence of uneven labor
demand, but reflections of workers' underlying preferences for
certain areas.
Both these radically different explanations purport to account
for unemployment differentials between areas. Public policies based
on either one alone would certainly contradict policies based on
the other. Yet both explanations might reasonably have some role
in any real economy. In this paper I probe the origins of unem-
ployment rate differentials between metropolitan areas in the
United States, asking the extent to which each of the conflicting
explanations can explain the differentials that exist.
*This study was supported by the U. S. National Commission for Employment

Policy. Elizabeth Cheteny provided competent research assistance. I would like
to thank Edward Gramlich and Steven Sandell for helpful comments.
? 1985 bv the President and Fellows of Harvard College. Published by John Wiley & Sons, Inc.
The Quarterly Journal ofEconomics, February 1985 CCC 0033-5533/85/010057-23$04.00

58 QUARTERLY JOURNAL OF ECONOMICS
In the first explanation, a disequilibrium among the areas of

the country is assumed to be typical of the economy. Workers in
high unemployment areas would be better off if they were to move
to low unemployment areas, but the economy does not eliminate
such opportunities for gain, or at least does so very slowly, because
of excessive costs of migration. Introspection supports this para-
digm: no one will move out of an area the instant the unemploy-
ment rate rises, and some people may not leave despite a sustained
deterioration of employment conditions. Thus, labor may flow
slowly between areas.
This explanation also holds sway in significant quarters of
economic policy making: it is the implicit justification for pro-
grams that "target" government funds to "depressed areas" with
the intention of reducing unemployment there. For instance, in
1979, $5.1 billion was spent under the Comprehensive Employ-
ment and Training Act (CETA) to create jobs in high unemploy-
ment areas.1 Funds for employment and training, area develop-
ment, countercyclical revenue sharing, and extension of
unemployment benefits rely on state and local unemployment
statistics in the determination of how much assistance to grant
each area. The amount of such aid totaled more than $10 billion
by the end of the 1970s [National Commission on Employment
and Unemployment Statistics, 1979, p. 2291.
In the second explanation, geographic areas are in an equi-
librium relationship with respect to one another. Workers migrate
until there is no further incentive to move. Within this view,
geographically targeted public employment will merely attract
more unemployed workers in the areas where jobs are created,
until any temporary reductions in unemployment have been off-
set. Thus, the government employment and funding programs are
useless, since they cannot reduce unemployment anywhere for
long.
The equilibrium explanation has received empirical support
from Hall [19701 and Reza [1979]. Both show that wages are
higher in high unemployment areas. These high wages provide
an incentive for workers to remain in high unemployment areas,
as in the equilibrium explanation. This finding is difficult to ex-
1. This reasoning is clearly stated in the recommendation of the National

Commission for Employment Policy [1980, p. 3]: "The Federal Government should
increasingly focus its economic development funds on locations characterized by
large concentrations of structurally unemployed persons."

THE GEOGRAPHIC DISTRIBUTION OF UNEMPLOYMENT 59
plain within a disequilibrium context because in that view excess

labor in an area should drive wages down.
However, the empirical relationship demonstrated by Hall
and Reza is not sufficient to prove that the disequilibrium expla-
nation is of no consequence or that its policy conclusions are
invalid. It may be that an equilibrium relationship exists, but
that equilibrating forces are so weak that individual areas spend
a long period of time away from their equilibrium. In that case
disequilibrium may be the typical state of the labor market, and
it may be wise for the government to intervene to reduce the
inequities created by the disequilibrium.
The key question is the speed of equilibration: how long does
a disequilibrium persist? This paper explicitly measures the speed.
It also presents evidence on the related question, how much of
the variation of unemployment rates among geographic areas has
an equilibrium explanation? The paper rounds out the discussion
with an empirical demonstration that amenities and unemploy-
ment insurance help compensate for high unemployment or low
wages in an area.
I. A MODEL TO TEST THE EXPLANATIONS
In this section I specify a model that is consistent with both

explanations of unemployment differentials. The importance of
the different explanations depends upon the parameters of the
model.
A. Equilibrium
Several authors have shown how the different characteristics
of geographical areas must be related to each other in order for
there to be no incentives for firms or workers to move between
them. Rosen [1974, 1979] lists many studies and presents much
of the theory. The Appendix presents a model similar to that of
Hall 11972] in which both wages and unemployment rates are
determined by the preferences of firms and workers, given fixed
endowments of land and amenities in the area. The model can be
solved to give the wage rate, the unemployment rate, and the
labor force of each area in the economy. In particular, the equi-
librium unemployment rate, or natural unemployment rate, in
each area will be some function of the amenities and land en-
dowment in the area. Because of variations in the endowments,

natural unemployment rates differ among areas. But since the

amenities and land endowments remain fixed or change very slowly
over time, the natural unemployment rates change only slowly
also, so that year-to-year changes in the unemployment rate must
be primarily disequilibrium in nature. The empirical estimation
uses this fact to determine how long an area's unemployment rate
remains away from its equilibrium level after a shock.
B. Pure Macroeconomic Disequilibrium
During a macroeconomic recession or expansion, area un-
employment rates rise or fall nationwide. This does not neces-
sarily create any opportunities for net gain from migration be-
tween areas because neither firms nor workers can avoid the
decline in profits or utility if all areas are affected equally. In the
empirical work below it is assumed that if all areas have an equal
increase in their unemployment rates, then no new incentives to
move are created, and the areas remain in equilibrium with re-
spect to each other, even if the economy as a whole is in dise-
quilibrium. That is, if some number at is added to all natural
unemployment rates in year t, the areas are still in mutual equi-
librium. Pt may also represent changes in the economy-wide nat-
ural unemployment rate, such as appears to have occurred in the
United States during the 1970s.
An appropriate specification seems to be that the unemploy-
ment rate U t in area i in period t which is sufficient to create an
interarea equilibrium (no incentive to move) is composed of a
nationwide average in period t, a and an equilibrium differential
a1 for each area t:
(1) c~t=( + I-
C. Interarea Disequilibrium
Assume that all area labor markets begin in spatial equilib-
rium, but are disturbed by a shock which redistributes labor de-
mand from area B to area A in Figure I. As a result of the shock,
the unemployment rate must rise, or the wage must fall in area
B. Both of these changes reduce the utility of workers in area B,
so they gain by migrating to area A. This adjustment occurs over
the long run, but in the short run barriers to migration allow the
disequilibrium to exist for a time.
If the short-run response takes place primarily in unemploy-
ment, area B will move to a point like C in Figure I. If the short-

A / Equiibrium locus,
amenities constant
FIGURE I
run response takes place primarily in wages, the area will move
to D. Which of these responses is more likely in the short run? If
firms tend to smooth out fluctuations in the wage rates they pay,
short-run changes in demand will tend to show up in unemploy-
ment more than in wages. An explanation for this behavior can
be found in contracts, both explicit and implicit. Explicit contracts
freeze wages for a period, though they allow layoffs. Implicit con-
tracts (see Azariadis [19751) have the same effect, because of work-
ers' aversion to risk. Both of these arguments imply that a shock
will tend to be mostly in unemployment:
(2) Uit = Ut + Fit,
where Uit is the unemployment rate in area i in period t and Fit

is the increase in unemployment arising from the shock, written
as a fraction of the labor force. Equation (2) separates the equi-
librium from the disequilibrium components of area unemploy-
ment rates.
There are three forces at C that tend to drive the labor market
in the direction of equilibrium: (1) Workers migrate out of the
area because of the high unemployment rate (which is uncom-
pensated); (2) firms migrate in, attracted by the large unemployed
labor force; and (3) wages tend to fall because of the excess supply
of labor. The first force reduces the labor force in the area, while
the second and third forces increase employment in the area over
time. All of the forces reduce the unemployment rate, pulling the
area down from the disequilibrium point C toward the equilibrium
line.
The important question is how strong are these forces. If they
are strong, disequilibrium will be brief and unimportant. If they

62 QUARTERLY JO URNAL OF ECONOMICS
are weak, it will be long and important. In general, some fraction

of the last period's disequilibrium will persist into the present.
Thus, Fit will be autocorrelated:
(3) Pit = i- P t-i + rlit,
where the nit are the independent random shocks themselves and
p is the fraction of the last period's shock that remains in the
current period. (1 - p) is the fraction of the disequilibrium that
is eliminated by mobility between the areas during one period.
Combining equations (1) and (2), we have the unemployment
rate for an area as the sum of three components:
(4) Uit = ?ti + Pt + Fit-
By estimating the parameters, oti, It, and p, we can calculate the

equilibrium unemployment rates of the areas as well as the speed
of transition of equilibrium.
II. EMPIRICAL ANALYSIS
The analysis is based on unemployment rates for thirty

American Standard Metropolitan Statistical Areas (SMSAs) taken
from the Current Population Survey (CPS) and the decennial
census. These sources are the only reliable estimates of unem-
ployment rates, as they are based on a household survey.2 In order
to assemble a longer sample, I combine CPS and census data. In
the resulting sample the time period between successive years in
the data varies, since the CPS data are for the years 1974 through
1978, while the census data are for 1970. The relation between
successive unemployment rates m years apart can be calculated
by repeated substitution of equations (3) and (4). It is
(5) Uit = Ot + rt + pm(Uit-r - ri-t-rn) + li't
where
rn-1
j=it= E -j-
j=O
2. The standard area unemployment rates are calculated from ad hoc formulas
applied to unemployment insurance records. These are more widelyiavailable (for
instance, in U. S. President [ 1980], Table D-8), but are unreliable in many respects.
Especially important is the fact that unemployment insurance systems differ from
state to state, but the ad hoc formulas do not sufficiently reflect the differences.

In the above equation the disturbance term nqit' represents only

shocks that have occurred since the previous observation; so it is
not autocorrelated, and all the parameters can be consistently
and efficiently3 estimated by the method of least squares. Since
the formula is nonlinear in its parameters, I have used the Gauss-
Newton method to arrive at a solution.
The parameters are estimated over two different sample pe-
riods: 1974 through 1978, and 1970 through 1978. The length of
the sample period is important because the theoretical assump-
tions must hold true over the sample period. The sample period
must satisfy two criteria:
1. The period must be short enough that the equilibrium
unemployment differentials ot do not change over the entire pe-
riod. These differentials depend on the relative wage rates and
the amenities of the different areas. They can change over long
periods as different industries achieve predominance in some areas,
amenities gradually change, or the average quality of the labor
force changes. I have kept the sample period less than a decade
in order to minimize this problem.
2. The period must be long enough that a disequilibrium that
exists at its beginning will have time to dissipate by its end.
Otherwise, part of that disequilibrium will be present over the
entire period and will be incorrectly captured in the equilibrium
unemployment differential (xi. One way to be sure that the period
is long enough to eliminate disequilibrium components of un-
employment is to require that the quantity of interarea migration
over the period be much larger than the differentials in unem-
3. The estimation can be thought of intuitively if all of the observations are

from consecutive years (m = 1). Then the estimation becomes a two-way crossed
analysis of variance design with first-order autocorrelated residuals. One "way"
is the area dimension, and the other "way" is the time dimension. The estimation
can also be thought of as a regression of unemployment rates on lagged values
of unemployment rates in the same area, with a dummy variable for each area
and year. The dummy variable for the area estimates the mean unemployment
rate for the area; the dummy for the year accounts for macroeconomic effects. If
the lagged values have any effect after allowing for the effects of the dummy
variables, then there is a persistence of disequilibrium, measured by the size of
the coefficient of the lagged unemployment rate.
The estimators are consistent even if the disturbances are heteroskedastic. I
had planned a second estimation using the parameters estimated on the first pass
to adjust for heteroskedasticity. But since p turned out to be close to zero, the
second estimation was not necessary, as the disturbance was already homoske-
dastic. Under the assumption that ibgt is distributed N(O,u2,I), least squares
estimators of the parameters are the same as maximum likelihood estimators,
which are consistent and efficient.

TABLE I
PARAMETERSESTIMATEDFROMA MODEL OF THE DETERMINANTSOF UNEMPLOYMENT
RATES AMONGMETROPOLITANAREAS OVER TIME5
1. Sample period 1974-1978 1970-1978

2. Number of metropolitan 30 28
areas in sample
3. R2 0.88 0.89
4. p (S.E.) 0.02381 -0.02626
(0.1173) (0.1199)
5. vn 0.8372%b 0.7743%
6. < 0.8374% 0.7746%
7. (Tat 1.6232% 1.6067%
8. ?T +Fd 1.8265% 1.7836%
9. Test ati all equal F (D.F.) 14.274** 21.883**
(29,86) (27,107)
10. Fraction movers over period
a. total 13.9% 25.9%
b. blacks 10.3% 19.5%
c. hispanic 11.7% 22.0%
11. Fraction mover Ta,t 7.61 14.5
12. Fraction mover (Tarj, 1.94 2.07
a. Model is given by equations (3) and (4) in the text.

b. Percent of the labor force.
c. (r = (r l - 1
d. b-+ F . )
**Hypothesis is rejected at the 1 percent level of significance.
ployment between the areas. That way, if any components are

disequilibrium components, they will have time to vanish due to
the migration of workers out of the area.
Row 10 of Table I presents estimates of the fraction of the
population of SMSAs that moved between areas over the respec-
tive periods. These are calculated by extrapolating4 data from the
Current Population Survey [U. S. Bureau of the Census, 1979, p.
40] for the fraction of the population of metropolitan areas that
migrated between areas from 1975 through 1978. The estimates
in Row 11 show that even during the shortest period the amount
of migration was large compared with the differences in unem-
ployment between areas. For example, during the four-year period
13.9 percent of the population moved between SMSAs. During
the same period the standard deviation of area unemployment
4. The extrapolation is performed assuming that a constant fraction of the
population moves each year. The formula is 1 - Rp = (1 - R3 )'3, where Rp is
the fraction of the population migrating to other areas in p years. This Markovian
model is only approximately correct, yet it predicted the fraction of interstate
movers fairly accurately.

rates about the nationwide mean was only about 1.8 percent of
the labor force (Row 8). That is, if the fraction of interarea movers
among the labor force is the same as the fraction of interarea
movers within the population, then there were about 7.6 times
as many movers between SMSAs as there were differences in
unemployment rates between metropolitan areas. For the eight-
year period more than fourteen times as many people moved be-
tween metropolitan areas as are represented by the standard de-
viation of area unemployment rates.
Now, it is possible, of course, that the composition of movers
by skill category may be different from that of unemployed per-
sons; and if different skill categories are not substitutes for one
another, inter-SMSA movements need not create one-for-one
changes in the labor market conditions most relevant for the
unemployed. If only high-skilled persons moved and only low-
skilled persons were unemployed, for example, inter-SMSA mi-
gration might do nothing to improve the prospects of the unem-
ployed. In fact, however, the gamut of skill categories is well
represented among both movers and the unemployed, and multi-
year gross migration flows are, as noted, dramatically larger than
inter-SMSA unemployment stock differentials. In the absence of
evidence that the composition of movers is radically different from
that of unemployed persons, then, both the four-year and eight-
year periods should be long enough that a shock at the beginning
of the period could not cause a disequilibrium that would persist
through the entire period.
These considerations suggest that the four- and eight-year
periods are both short enough and long enough to give reasonably
accurate estimates. In these samples we have the following re-
sults:
1. The autocorrelation coefficient p of the error term At is not
significantly different from zero (Row 4). This means that dise-
quilibrium components of unemployment do not persist for longer
than a year. Local disequilibria, measured annually, are uncor-
related through time.
This implies that the forces which tend to restore spatial
equilibrium-migration and job creation and destruction-are
strong relative to the disequilibrating shocks that disturb the
spatial equilibrium. These forces are able to restore spatial equi-
librium within a year.
2. The F-statistic for testing the hypothesis that the equilib-
rium unemployment rates for all of the areas are equal is pre-

66 QUARTERLYJOURNAL OF ECONOMICS
sented in Row 9 of Table I. In both samples the test easily rejects

the hypothesis at the 1 percent level. Thus, there are significant
differences among the local equilibrium unemployment rates over
the two periods studied.5
3. The standard deviation of the equilibrium unemployment
rates or, is always greater than the standard deviation of the
disequilibrium unemployment components Te. In both samples a,,,,
is about twice as large as u6 (Row 12). Thus, the equilibrium
unemployment rates deviate from their national mean more than
the disequilibrium components deviate from their mean, on av-
erage.
We may summarize the above results in the following way:
the main component of area unemployment rate differentials is
a local equilibrium component, in that it persists much longer
than the time necessary to eliminate it through migration. The
remaining components are either nationwide changes through
time, which do not differ over areas, or local disequilibrium com-
ponents that are only half as large as the equilibrium components
and persist for less than a year.
A. The Brevity of Disequilibrium
Some readers might be surprised that the disequilibrium ef-
fects could be so brief. After all, it takes workers time to perceive
that their employment opportunities have diminished so much
that they must go to the trouble of starting over in a new area.
Even then, some workers experience major problems of mobility
and may remain in a declining area despite their unemployment.
But the movement toward equilibrium merely requires that a
small part of the labor force be mobile. The fact that some workers
are immobile may merely determine who will leave, but have
little effect on unemployment differentials. The analysis seems
to confirm this.
Migration data show that the flow of people moving between
areas in a year is large compared with the number of people the
disequilibrium component represents. A disequilibrium deviation
in the unemployment rate of average size for an SMSA (ae) rep-
5. There are significant differences among the local equilibrium unemploy-

ment rates over much longer periods. Even in a period that spans 28 years, the
hypothesis that the equilibrium unemployment rates are equal was rejected at
the 1 percent level of significance.
6. In longer samples the ratio declines somewhat, presumably because of the
gradual change in the equilibrium unemployment rates. But even for a 28-year
sample, a,, is 25 percent larger than a,,.

resents about 0.8 percentage point of the labor force (Row 6). But
in a single year about 3.7 percent of the population of an SMSA7
moves to a new SMSA or to a nonmetropolitan area. Thus, there
appears to be more than enough migration going on in a single
year between areas to smooth out the temporary differentials in
unemployment rates between areas.
In fact, the quantity of migration is so large that equilibrium
could be reestablished after an average shock-for example, sup-
pose that 0.8 percent of the workers in an area lose their jobs-
without any worker moving out of the high unemployment area
who would not have moved out anyway. If one person in four who
would have moved into the area is in the same skill category as
those newly unemployed and decides not to move because fewer
jobs are available, then the in-migration rate falls to 2.8 percent,
while the out-migration rate remains at 3.7 percent. The labor
force of the area falls by 1.1 percent, and the unemployment rate
falls by the same percentage, more than enough to eliminate the
disequilibrium. Thus, even a decision by a small fraction of work-
ers who might have migrated in not to do so because of the un-
appealing employment prospects will be sufficient to eliminate
disequilibrium unemployment components within a year.
Even minority groups have migration rates that are large
compared with the disequilibrium components of unemployment.
For example, blacks migrated between SMSAs at a rate of 2.7
percent per annum, while hispanics migrated between SMSAs at
a rate of 3.1 percent per annum. Thus, even if these minority
groups constituted the entire labor force of any SMSA, they would
have enough mobility to eliminate disequilibrium unemployment
differentials easily within a year.
One other possible explanation for the apparently quick equi-
librium of the labor market deserves mention. If the business
cycles of the different areas are not exactly synchronized, then
some of the cyclical components of the unemployment rates will
be measured in the error term At, rather than in the the cyclical
term for all areas Pt. But these components tend to die out quickly
because in the following year the area will be in a different stage
of its business cycle. This could partly account for the small au-
tocorrelation of Ft
If this is true, the average size of At, small as it is, is actually
an overestimate of the true value. Much of the apparent dise-
7. This figure is calculated from the formula in footnote 3 with p = 1.

68 Q UAR TERL Y JO URNAL OF ECONOMICS
quilibrium among areas may thus be merely a lack of synchro-

nization of business cycles among areas. Thus, this explanation
would tend to reinforce the importance of equilibrium differen-
tials and minimize the importance of "persistent disequilibria."8
III. DETERMINANTS OF EQUILIBRIUM UNEMPLOYMENT

DIFFERENTIALS
The foregoing analysis indicates that the main differentials

in unemployment come from an equilibrium among different geo-
graphic areas. In that case they should be related to wages and
amenities in the areas in the ways specified above. In this section
I verify that these relations do hold among United States areas
and therefore that the equilibrium theory is consistent with cross-
sectional data.
Previous measurements of the equilibrium relationships (see
Rosen [1979] and references) have been designed to reveal dif-
ferentials in wages paid workers living in different areas to com-
pensate for variations in amenities and unemployment. In this
article I seek to reveal the causes of unemployment differentials
among areas. Therefore, the purpose of the analysis is different,
although the underlying relationships are the same.
The goal is to estimate the equilibrium locus V in equation
(A7) from Appendix B below. The equation states that utility for
identical individuals must be the same in all areas in equilibrium:
(6) V(W*,U*,A) = K,
+ - +
8. It has been suggested that the disequilibrium components of unemployment

disappear because workers withdraw from the labor force in discouragement, but
remain in the original area. While this effect might moderate the increase in the
unemployment rate of an area in response to a reduction in employment, it cannot
completely offset a reduction in the level of employment. To see this, differentiate
the definition of unemployment (U = 1 EIL), where E is employment and L is the
labor force), and express L as a function of the unemployment rate. Solving, we
have
dE d/(1- U; ]
In order for dUldE to be zero, there must be an infinitely elastic response of the
labor force to the unemployment rate (dLIdU -- - x). This is implausible because
it means that no one in the entire labor force would be courageous enough to seek
work if the unemployment rate rose very slightly. Therefore, the discouraged
worker effect will reduce the absolute value of dUldE, but not to zero.

TIlE GEOGRAPHIC DISTRIBUTION OF UNEMPLOYMENT 69
for some constant K. Taking the total differential of (6), we have
(7) dU* = (V!/VU) dW* = (VA/VU) dA.

Thus, an increase in the wage or amenities must be "paid for" by
a compensating increase in unemployment in order to retain the
equality of utility among areas. In general, all of the arguments
of equation (7) are endogenous variables, and so estimating V
precisely would be difficult and beyond the goals of this paper.9
However, some sources of error can be dealt with simply:
1. Temporary local disequilibria lead to deviations of actual
U and W from U* and W*. I argued above that local disequilibrium
disturbances will primarily involve unemployment, rather than
wages, so that W can be considered uncorrelated with the dise-
quilibrium disturbance. In that case, disequilibrium disturbances
will not be a problem in regressions as long as U is a dependent
variable and W is an independent variable.
2. A more difficult disturbance arises when we consider work-
ers with a variety of skill levels. Workers with a greater stock of
human capital will receive more compensation of all forms. If the
human capital stock (call it H) is allowed to remain an unmea-
surable random disturbance, it will be correlated with U, W, and
A so that regressions with any of these variables on the right-
hand side will be biased and inconsistent.
My approach is to minimize the correlation between W and
A, and the unmeasurable components of human capital. In that
case I can use these two variables on the right-hand side of a
regression with the least bias. I use three techniques for this.
a. The regression includes as many variables as possible to
measure the human capital stock of the workers explicitly. By
using survey data from individual workers, I am able to include
more human capital variables than if I used aggregate data. These
variables are (1) the number of years of education of the worker
and (2) demographic variables, such as age, race, and sex. The
latter variables are known to have a correlation with human
capital.
9. Two approaches may be used in future work: (1) simultaneous equations

models and (2) canonical correlations. The first cannot be attempted seriously
until it is known how firms decide between a high-wage, high-unemployment
strategy and a low-wage, low-unemployment strategy. This is necessary to find
exogenous variables for the wage and unemployment equations. The second in-
volves several statistical problems, including multiple estimates and standard
errors that cannot be calculated. See Hutchens [1980].

b. Human capital is closely related to the occupation of the

worker, so occupation must somehow be held constant in the
regression. I have done this by measuring wages as deviations of
the worker's actual wage from the average wage of all workers
in the same occupation. Thus, the wage is considered "high" only
if it is higher than the average wage for the same occupation
throughout the country. Differences in human capital between
occupations will be uncorrelated with the resulting variable.
c. Individual workers vary in human capital endowments,
some of which remain unaccounted for. These will be correlated
with the individual wage. But an average of individual wages
over each area will net out many of these individual differences,
so that the resulting area-average wage will be much less cor-
related with unmeasured human capital characteristics of indi-
vidual workers. The area average correctly leaves intact any wage
differential that must be paid to all workers in an area to com-
pensate for other characteristics of the area.
To summarize, the wage variable is transformed as follows:
(1) each individual wage is divided by the cost of living in the
area to get a real wage; (2) real wages are averaged for each
occupation and subtracted from the real wage of a particular
worker in the occupation; and (3) the deviation is averaged for
each geographic area.
If any human capital components remain in both the inde-
pendent variables and the disturbance, then the coefficients will
be biased toward zero.10 Thus, we can always be sure that the
true coefficients are at least as large (in absolute value) as those
estimated. If an estimated coefficient proves to be significantly
different from zero, we need have no fear that this result is due
to bias.
A. Data
Since the main differentials in unemployment rates persist
over decades, we can analyze them by looking at any one year
with little danger that the analysis would be drastically different
10. Consider an unmeasured human-capital characteristic H. It has a positive

correlation with W and a negative correlation with U. The equation error
(U - g(W, . . . ) will be negatively correlated with H. This biases the coefficient
of W downwards in the limit (see Johnston [1963], p. 279). The same argument
can be made for the coefficient of A.

if we had looked at another year. Therefore, I have chosen 1970

to take advantage of the census of population in that year.
The data come from the Public Use Sample, which provides
data for one randomly chosen household from every one hundred
households included in the census. The data specify information
about the individuals in the households, including the labor force
status of every member, demographic information, income, and
location. I have retained only people living in SMSAs who are
members of the labor force, aged sixteen and older. I have added
to each worker's case a number of variables that specify amenities
or conditions in the area in which the worker lives. Details of
these can be found in Appendix A.
The dependent variable has a value of one if the worker was
unemployed at the time of the census and a value of zero if he
was employed. Since the dependent variable is dichotomous, probit
or logit analysis gives efficient estimators. But probit and logit
analyses are expensive. Therefore, I have performed probit anal-
ysis on only a randomly chosen subset of 120,000 observations.
OLS regressions give unbiased and consistent, but slightly inef-
ficient, estimates. I have run regressions for the entire data set
of 500,000 individuals. Results for the two different analyses are
virtually identical, with all signs the same and all significance
levels consistent except for the three coefficients footnoted. In
those, the regressions produced coefficients significant at the 0.05
level, while the probit produced results significant at less than
the 0.05 level. I present the regression results because the larger
data set probably more than compensates for the inefficiency of
OLS.11
B. Results
The empirical equations explaining unemployment are pre-
sented in Table II. The independent variables include both in-
dividual characteristics, to specify human capital explicitly, and
area characteristics, to specify various forms of compensation,
including wages, amenities, and unemployment insurance.
All of the human capital variables have the expected sign
and almost all of them are statistically significant at conventional
11. The t-statistics of the regressions are asymptotically biased, so it is im-

portant to note that the three footnoted coefficients are not significant in the
probit analysis.

TABLE II
REGRESSIONSOF UNEMPLOYMENTON INDIVIDUALAND AREA CHARACTERISTICS
Regression No. 1 Regression No. 2
Independent variables coefficient t-stat. coefficient t-stat.
I. Individual characteristics
A. Demographic
age 0.00348 -23.2 -0.00348 - 23.2
age2 0.0000387 21.9 0.0000386 21.9
race: nonwhite 0.0147 12.5 0.0146 12.4
sex: male - 0.00786 -7.5 -0.00782 - 7.5
head of household - 0.0353 -31.7 -0.0353 -31.6
children under 6 0.0145 13.3 0.0146 13.3
head x children -0.0187 -14.6 -0.0187 - 14.6
B. Other family income 0.0000951 - 17.2 - 0.0000951 -17.2
C. Education - 0.00353 - 27.8 -0.00355 - 27.9
II. Area characteristics
A. Real area wage 0.000486 12.8 0.000476 12.8
B. Amenities
parks 0.00000641 2.3a 0.00000794 2.9a
air pollution 0.0000611 -4.3 - 0.0000614 -4.3
very hot days - 0.0000227 - 5.1 - 0.0000215 -4.8
very cold days - 0.00000413 - 1.1a - 0.00000729 - 2.0
sunny days 0.000286 3.3 0.000255 2.9
C. Ul replacement rate
max. ben./SMSA 0.0205 4.3
avg. ben./state wage 0.816 5.3
F-statistic regression 211.04 211.57
a. This coefficient was not significant at the 0.05 level in a probit analysis with the same variables, but
only one fourth as many observations. All other coefficients that are significant above were also significant
in the probit analysis. All coefficients have the same signs in the probit analysis.
levels. The following workers are revealed to have higher human

capital" and, hence, lower unemployment rates: whites, males,
heads of household, and well-educated workers. The effect of ma-
turity and work experience is represented by a second-degree
polynomial in the age of the worker. The estimated coefficients
indicate that the worker's chance of being unemployed falls as
12. I use here a broad concept of human capital that may, for instance, include
discrimination as a factor reducing human capital. Thus, the unemployment ex-
perience of blacks and women may be in part or in whole the result of discrimi-
nation, even though these workers may not have lower productivity in the absence
of discrimination.

the worker gets older until it reaches a minimum when he is age

45. This is consistent with the observation that a worker's pro-
ductivity rises during the early years of his life, but falls later.
The effect of young children in the household depends upon whether
the worker in question is the head of household or not. If the
worker is the head of household (the coefficient of "children" plus
the coefficient of Thead x children" is negative), his human cap-
ital is greater, and his unemployment less, presumably because
his diligence in working and searching for a job is heightened. If
he is not a head of household (the coefficient of "children" is
positive), his human capital is less, and his unemployment greater,
presumably because of his competing duties at home).
C. Compensation Variables
The compensation variables are the most interesting in this
study because they test whether the "equilibrium" theory cor-
rectly explains unemployment, and how much tradeoff there is
between each one of then and employment. In the theory, more
unemployment must be compensated by higher wages or amen-
ities.
The theory is vindicated in that all coefficients conform to
the hypothesis. The area wage, purged as far as possible of human
capital components, bears a significantly positive relationship to
the unemployment rate. Thus, a higher wage is one factor com-
pensating a higher unemployment rate (or vice versa). Possibly
the best test of the theory comes from the amenities variables.
All of the coefficients support the equilibrium theory. The "de-
sirable" amenities attract workers and hold them despite un-
employment. These amenities include an abundance of parks per
capita, pure air to breathe, and mild climate, avoiding the ex-
tremes of both very hot days and very cold days, but including a
liberal proportion of sunny days. Each one of these factors is tested
and found to be associated with an increase in the rate of un-
employment in an area.
Unemployment insurance may also encourage workers to re-
main in an area despite unemployment. Areas with higher amounts
of benefits should have higher unemployment rates. The esti-
mated equation states that areas with higher "replacement rates"
do in fact have higher unemployment rates. The replacement rate
is included in two different ways: one measure is the ratio of the
maximum benefit amount to the average area wage. The other

measure is the average benefit amount in the state divided by

the average state wage. Each of these measures has its virtues,13
but the results are similar; both support the predictions of the
equilibrium theory.
IV. OTHER EVIDENCE
This paper presents evidence that unemployment differen-

tials are not primarily brought on by shocks to demand. Other
evidence for this has appeared in the literature, though it has not
been recognized as such. For example, if high local unemployment
rates are mostly caused by recent losses in employment, it should
be possible to correlate high unemployment areas with those losses
in employment, and low unemployment areas with earlier growth
in employment. Hardly any such relationship is observable among
counties of the United States: according to Iden [1967] and to
Laber [1968], high unemployment rates are frequently found among
the counties that have been growing rapidly in employment. This
finding is completely in accord with the equilibrium theory: in
that theory the high unemployment rates arise independently of
the growth of employment. More important, the finding attests
to the lack of ability of the disequilibrium theory to predict the
relationship between local unemployment rates and the growth
of employment.
V. CONCLUSIONS
This paper set out to determine the relative importance of
equilibrium and disequilibrium factors in determining the geo-
graphic distribution of unemployment. It presents the following
empirical results that bear on the relative importance of these
factors.
1. The average rate of migration between metropolitan areas
is larger than the differences in unemployment rates between
metropolitan areas over periods as short as a single year.
2. Shocks that disturb the steady-state relationship among
the unemployment rates of metropolitan areas tend to be elimi-
nated by mobility within a year.
13. The first measure is more nearly exogenous than the second, but the
second measure is more representative of the replacement rate in the metropolitan
area.

3. On average, the unemployment differentials that are cre-

ated by shocks are smaller than the unemployment rate differ-
entials that are compensated by other factors and thus are equi-
librium in nature.
4. The equilibrium theory correctly predicts the relationship
between unemployment rate differentials and other variables:
high unemployment rate areas are those with high wages, high
unemployment insurance, and attractive amenities.
5. The predictions of the disequilibrium theory do not hold
among metropolitan areas: areas with high unemployment are
not necessarily those with recent declines in employment, nor do
they have lower wage rates.
Any one of these findings would weaken the usual presump-
tions about "lagging areas" being those with high unemployment
rates. The five of them together largely eliminate the empirical
support for that view.
For many purposes this means that it is safe to assume that
metropolitan areas of the United States are usually close to an
equilibrium relationship with respect to each other. For example,
in predicting the effect of a government policy of creating jobs in
high unemployment rate areas, one should evaluate how the in-
terarea equilibrium will be affected. Viewed this way, it is clear
that the unemployment rate will not fall for long except in the
event that the job creation somehow makes the high unemploy-
ment areas less attractive or improves the quality of labor there.
While these results stop short of proving that unemployed
workers always act rationally, they do indicate that workers move
rationally enough to take advantage of and so eliminate gains
from migration between areas of the United States. This may
prove to be an important element in an overall theory of unem-
ployment, which may someday be devised.
APPENDIX A: VARIABLES ADDED TO THE PUBLIC USE SAMPLE OF

THE CENSUS IN PREPARING TABLE II
The following variables are appended to each worker's record

according to the worker's area of residence. All are taken from
U. S. Environmental Protection Agency, 1975, using Tables A-3
and B-3:
Parks: Park and recreation areas per 1,000 population,
1970.
Air Pollution: Mean level for total suspended particles,
1970.

76 Q UAR TERL Y JO URNAL OF ECONOMICS
Very hot days: Number of days with temperatures 90'F

or above, 1970.
Very cold days: Number of days with temperatures 320F
or below, 1970.
Sunny days: Possible annual sunshine days, 1970.
The Cost of Living Index used to divide the nominal wage
from the Public Use Sample is from Tables A-5 and B-5.
APPENDIXB: A MODEL OF THE DISPERSION OF NATURAL

UNEMPLOYMENT RATES AMONG GEOGRAPHIC AREAS
Workers are assumed to value their consumption of the gen-
eralized commodity (X) and the level of amenities (A) that exist
in their area. For simplicity, each worker supplies one unit of
labor to the market. Part of a worker's labor supply may become
time unemployed, but no leisure results from this unemployment
because workers are assumed to search for a new job while un-
employed.'4 Workers are constrained in that their labor earnings,
which are reduced by the probability of unemployment (U), must
cover their purchases of commodity X (at a price of 1). They seek
to maximize their utility (u):
(Al) max u(X,A) such that W(l X.
+ +
Workers see the wage rate (W), the unemployment rate (also U),15
and the level of amenities in their area as exogenous, so their
utility from living in the area can be written as an indirect func-
tion of the level of those variables in the area:
(A2) V(W, U. A) = max{u(X, A) + X[W(1 - U) - X]}.
- + X,A
Firms produce commodity X through a production function

F, homogeneous of first degree in employment (N) and land (L).
The firm can operate more productively if there is an inventory
of unemployed workers to draw on for hiring and to discourage
workers from quitting. Thus, the level of the unemployment rate
in the area enters the production function.16 Area amenities may
affect production as well. Thus, the production function can be
written as F(NL,U,A). Firms hire workers and rent land (at a
rental r) to maximize their profits or, equivalently, to minimize
14. Allowing unemployment to have some direct utility would not change any
conclusions so long as unemployment, on balance, reduces utility. Otherwise, there
will be some voluntary unemployment: in this model all unemployment is, at
least directly, involuntary.
15. A worker's probability of unemployment and the area unemployment rate
are the same because turnover is assumed to spread employment to all workers
in an area equally.
16. This is the assumption that allows an equilibrium with involuntary un-
employment. The role of the unemployment rate in production costs is derived in
Hall 11972, p. 7541.

their unit costs. This process yields a unit cost function that de-
pends on the parameters of the area:
N
(A3) (W,r,U,A) = m {W- +rL
+ r-
N/XL/XA X X
+ F[ - L('X U' A)
In this problem it is easier to work with the factor ratio NIL than
with the land rental r. The latter variable can be eliminated by
using the first-order condition for a minimum in (A3). That is,
W
(A4) _ FN(N/X,L/X,U,A) _ FN(N/L,1,U,A)
r FL(N/X,L/X,U,A) FL(N/L,1,U,A)'
using the fact that the derivatives FN and FL are homogeneous
of degree zero in their first two arguments. Then r from (A4) can
be substituted into (A3) to give a cost function C(W,N/L,U,A).
When the firm has no incentive to expand or contract, its profits
must be zero, so its unit cost must be the product price:
(A5) C(Wj,N-/L-,U-,A-) -_ 1.
The subscript i in equation (A5) indicates that the condition must
hold in each area i. The total labor force in each area (employed
and unemployed workers, NJ/(1 - U1)) must add up to the exog-
enous number of workers M in the economy:
n
N
(A6) E t=M.
i~1 1-Ui
If the quantity of land L, and the amenities A, are exogenous,
then equations (A5) and (A6) define a feasible set of n areas with
a vector (WL,UL,N-,A ) of attributes for each. The worker's problem
is to choose among the areas so as to maximize V(W-,U-,A-). The
necessary conditions for this maximum are that (a) workers re-
ceive the same utility in any area which is inhabited:
(A7) V(W-,Uj1A-) = V(Wj,Uj,Aj),
for all means i andj, and (b) that the workers' indifference curves
are tangent to the firms' isocost curves:
(A8) ~Vw(W-,UjAj) _Cw( Wj,NJ1L-,U-,A-)

Vuf W-,U-,A-) Cuf W-,N1L.,U-,Aj)'
A nongenerate equilibrium will exist under certain second-
order conditions, including that the indifference curves of the
workers must be more concave than the isocost curves of the firms
as in Figure II. Then the attributes of each area are determined
by equations (A5) through (A8). The attributes Wi, U1, and N-
represent 3n endogenous variables if there are n areas. Equations

78 QUJARTERLY JOURNAL OF ECONOMICS
C(A2)
C(Al)
U firms' V (A2)
preference 3
d irec tion V (A)
workers'
preference
direction
FIGURE II
(A5) and (A8) provide n conditions each, while equation (A7)

provides n - 1 independent conditions and equation (A6) pro-
vides 1 condition. So the 3n conditions can be solved to give the
values of the 3n endogenous variables in terms of the exogenous
variables. In particular, the equilibrium unemployment rate in
each area will be some function of the amenities and land en-
dowment in the area. Different amenities and land endowments
will ordinarily lead to different equilibrium unemployment rates.
CORNELLUNIVERSITY
REFERENCES
Azariadis, Costas, "Implicit Contracts and Underemployment Equilibria," Jour-
nal of Political Economy, LXXXIII (Dec. 1975), 1183-1202.
Behman, Sara, "Interstate Differentials in Wages and Unemployment," Industrial
Relations, XVII (May 1978), 168-88.
Hall, Robert E., "Why Is the Unemployment Rate So High at Full Employment?"
Brookings Papers on Economic Activity, III (1970), 369-402.
"Turnover in the Labor Force," Brookings Papers on Economic Activity, III
(1972), 709-64.
Hutchens, Robert M., "Testing Hypotheses on Coefficients in Compensation Equa-
tions Estimated with Canonical Correlation," New York School of Industrial
and Labor Relations, Cornell Univeristy, July 1980, mimeographed.
Iden, George, "Unemployment Classification of Major Labor Market Areas,
1950-1965," Journal of Human Resources, II (Summer 1967), 375-91.
Johnston, J., Econometric Methods, 2nd ed. (New York: McGraw-Hill, 1963).
Laber, Gene, "Unemployment Classification of Major Labor Market Areas, 1950-65:
A Comment," Journal of Human Resources, III (Fall 1968), 515-19.
Reza, Ali M., "Geographical Differences in Earnings and Unemployment Rates,"
Review of Economics and Statistics, LX (May 1978), 201-08.
Rosen, Sherwin, "Hedonic Prices and Implicit Prices," Journal of Political Econ-
omy, LXXXVI (1974), 34-53.

, Wage-Based Indexes of Urban Quality of Life," in Current Issues in Urban

Economics, Peter Mieszkowski and Mahlon Straszheim, eds. (Baltimore: Johns
Hopkins, 1979).
U. S. Bureau of the Census, Department of Commerce, Statistical Abstract of the
United States: 1979, 100th ed. (Washington, D. C., 1979).
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D. C.: U. S. Government Printing Office, 1980).


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Two Views of the Geographic Distribution of Unemployment

Author(s): Stephen T. Marston

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This paper investigates the extent to which equilibrium and disequilibrium

Economic and social barriers may separate local labor mar-

*This study was supported by the U. S. National Commission for Employment

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In the first explanation, a disequilibrium among the areas of

1. This reasoning is clearly stated in the recommendation of the National

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plain within a disequilibrium context because in that view excess

I. A MODEL TO TEST THE EXPLANATIONS

In this section I specify a model that is consistent with both

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natural unemployment rates differ among areas. But since the

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where Uit is the unemployment rate in area i in period t and Fit

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are weak, it will be long and important. In general, some fraction

By estimating the parameters, oti, It, and p, we can calculate the

II. EMPIRICAL ANALYSIS

The analysis is based on unemployment rates for thirty

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In the above equation the disturbance term nqit' represents only

3. The estimation can be thought of intuitively if all of the observations are

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1. Sample period 1974-1978 1970-1978

a. Model is given by equations (3) and (4) in the text.

ployment between the areas. That way, if any components are

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sented in Row 9 of Table I. In both samples the test easily rejects

5. There are significant differences among the local equilibrium unemploy-

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7. This figure is calculated from the formula in footnote 3 with p = 1.

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quilibrium among areas may thus be merely a lack of synchro-

III. DETERMINANTS OF EQUILIBRIUM UNEMPLOYMENT

The foregoing analysis indicates that the main differentials

8. It has been suggested that the disequilibrium components of unemployment

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for some constant K. Taking the total differential of (6), we have

(7) dU* = (V!/VU) dW* = (VA/VU) dA.

9. Two approaches may be used in future work: (1) simultaneous equations

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b. Human capital is closely related to the occupation of the

10. Consider an unmeasured human-capital characteristic H. It has a positive

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if we had looked at another year. Therefore, I have chosen 1970

11. The t-statistics of the regressions are asymptotically biased, so it is im-

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Regression No. 1 Regression No. 2

Independent variables coefficient t-stat. coefficient t-stat.

levels. The following workers are revealed to have higher human

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the worker gets older until it reaches a minimum when he is age

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measure is the average benefit amount in the state divided by

IV. OTHER EVIDENCE

This paper presents evidence that unemployment differen-

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3. On average, the unemployment differentials that are cre-

APPENDIX A: VARIABLES ADDED TO THE PUBLIC USE SAMPLE OF