We will assume that actual output is produced using the production function Yt = AtK L 1 t , (3.1) where At is unobserved TFP, K is a known level of capital (which we will keep fixed for simplicity), and Lt is the number of workers actually working. On the other hand, potential output is defined as Yt = AtK Lt 1 , (3.2) where Lt is the number of workers who would be willing to work at the prevailing wage, given the pandemic situation, described next. Workers supply labor but are afraid to work when the pandemic is severe. In particular, their labor supply is determined by the following optimization problem max Lt Ltwt pt a 2 L 2 t subject to Lt 0 and Lt 1. (3.3) Here, pt is the current state of the pandemic, which is increasing in its current severity, while a > 0 is a parameter. You can think about pt as probability of getting infected when working