1. the unemployment rate will deviate from its natural level under the contract theory.
2. there will be no deviation of the unemployment rate from its natural level under the auction theory.
3. there will be no deviation of the unemployment rate from its natural level under the search theory.
4. all of the above will be true.
Choose the correct option.
Option 4 is the correct one. Under the auction and search theories the deviations of the unemployment rate from its natural level result from misinformation on the part of market participants. There is nothing to stop workers and firms from immediately adjusting the wage rate to reflect known conditions in the market. Under the contract theory, however, stable wages are maintained and the level of employment (of less senior workers) is adjusted in the face of all temporary shocks to nominal demand, whether anticipated or unanticipated.
Workers are buying insurance against the effects of variability of the demand for their services by accepting lower average wages. The owners of firms can diversify away the effects of variations in the profits of any given firm by holding shares in a wide variety of firms along with real estate and other assets. Workers tend, on the other hand to be heavily invested in a particular set of skills for which the demand can vary through time and are unable to diversify away the effects of this variability on their incomes. The fact that particular variations in the demand for the firm's output are known to be occurring does not reduce these benefits from stable wages and employment.