= Question 8: The labour market Assume that the labour market is described by the following loglinear model: np = = 20 - &1(w: - pt) + a2n-1 + 411 Q1 > 0, 0 0, (Q3.19) n = n = nt], (Q3.20) where np is the demand for labour, w: is the nominal wage rate, p; is the price level, n is the supply of labour, and nt is equilibrium employment. The shock terms in labour demand and supply are independent from each other, feature no autocor- relation, and are normally distributed with mean zero and constant variance, i.e. U1t~ N (0,0) and u21 ~ N (0,012). All variables are measured in logarithms. Expectations are formed according to the rational expectations hypothesis and Et-1 represents the objective expectation conditional upon the information set available in period t - 1. 70 (a) Interpret the equations of the model. Why does the lagged employment term (n-1) feature in the labour demand equation? What do we assume about the income and substitution effects in labour supply? (b) Assume that the short-run production function can be written, in loglinear terms, as yt = y0 +71nt, where yt is aggregate output and 0 0, 0 0, (Q3.19) n = n = nt], (Q3.20) where np is the demand for labour, w: is the nominal wage rate, p; is the price level, n is the supply of labour, and nt is equilibrium employment. The shock terms in labour demand and supply are independent from each other, feature no autocor- relation, and are normally distributed with mean zero and constant variance, i.e. U1t~ N (0,0) and u21 ~ N (0,012). All variables are measured in logarithms. Expectations are formed according to the rational expectations hypothesis and Et-1 represents the objective expectation conditional upon the information set available in period t - 1. 70 (a) Interpret the equations of the model. Why does the lagged employment term (n-1) feature in the labour demand equation? What do we assume about the income and substitution effects in labour supply? (b) Assume that the short-run production function can be written, in loglinear terms, as yt = y0 +71nt, where yt is aggregate output and 0